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NO. 071-A MAY 1990 Governmental Accounting Standards Series [Completely Superseded] Statement No. 11 of the Governmental Accounting Standards Board Measurement Focus and Basis of Accounting— Governmental Fund Operating Statements Governmental Accounting Standards Board of the Financial Accounting Foundation [Completely Superseded] For additional copies of this Statement and information on applicable prices and discount rates, contact: Order Department Governmental Accounting Standards Board 401 Merritt 7 PO Box 5116 Norwalk, CT 06856-5116 Telephone Orders: 1-800-748-0659 Please ask for our Product Code No. GS11. The GASB website can be accessed at www.gasb.org. [Completely Superseded] Summary This Statement is fundamental to the Board’s overall reexamination of governmental accounting and financial reporting. It establishes measurement focus and basis of accounting standards for governmental and expendable trust fund operating statements. This Statement establishes basic principles that are needed to develop the guidance in other projects, especially certain expenditure recognition and measurement standards that will be implemented at the same time as this Statement; it also provides specific guidance for many governmental fund transactions, primarily revenues. This Statement provides guidance for balance sheet reporting of general long-term capital debt—liabilities resulting from capital asset acquisitions or debt financing of certain nonrecurring projects or activities that have long-term economic benefit. This Statement does not, however, provide guidance for balance sheet reporting of debt issued to finance operations or deficits (operating debt) or the long-term liabilities arising from the accrual of governmental fund expenditures. That guidance will be provided in a subsequent Statement on financial reporting, which also will be implemented at the same time as this Statement. *** Measurement focus refers to what is expressed in reporting an entity’s financial performance and position. A particular measurement focus is accomplished by considering which resources are measured and when the effects of transactions and events involving those resources are recognized. When effects are recognized is referred to as the basis of accounting. The measurement focus for governmental fund operating statements should be the flow of financial resources measurement focus. The operating results expressed using this measurement focus show the extent to which financial resources obtained during a period are sufficient to cover claims incurred during that period against financial resources. This measurement focus considers financial resources only and uses an accrual basis of accounting. The flow of financial resources measurement focus for governmental fund operating statements is responsive to the governmental environment and the needs of users of governmental financial reports. This measurement focus is based on the concept of accountability, which includes measuring interperiod equity—whether current-year revenues were sufficient to pay for current-year services. It also considers the performance i [Completely Superseded] goals and measures of governmental-type activities, the intent and effect of budgets and other financial controls, and the use of fund accounting to achieve and demonstrate legal compliance and to enhance financial administration. The flow of financial resources measurement focus requires governmental fund operating statements to recognize the effects of transactions or events on financial resources when they take place, regardless of when cash is received or paid. Financial resources are cash, claims to cash (for example, debt securities of another entity and accounts and taxes receivable), claims to goods or services (for example, prepaid items), consumable goods (for example, supplies inventories), and equity securities of another entity obtained or controlled as a result of past transactions or events. Revenues, operating expenditures, and interfund operating and residual equity transfers are the result of transactions or events that affect financial resources. Also, the acquisition, disposition, and long-term financing of capital assets and the long-term financing of certain nonrecurring projects or activities that have long-term economic benefit are transactions that affect financial resources. The flow of financial resources measurement focus does not, however, report an operating statement effect for the issuance and repayment of operating debt. Governmental fund revenues can result from taxation and from other nonexchange transactions and events, or they can result from exchange transactions. Tax revenue should be recognized if the underlying transaction or event has taken place and the government has demanded the taxes, regardless of when cash is received. For example, for revenue from income taxes, the underlying event is the earning of income by the taxpayer and the demand is the requirement for taxpayer remittance of taxes through withholdings, estimated payments, and final settlement during the fiscal year or within two months thereafter. Revenue would be accrued to the extent that required tax payments are delinquent. Revenue from other nonexchange transactions, such as from fines, fees for licenses and permits, and donations, should be recognized when the underlying event takes place and the government has an enforceable legal claim to the amounts, regardless of when received. Governmental fund revenues from exchange transactions, such as charges for services and investment income, should be recognized when earned, that is, when the entity has done what it must do to complete its side of the transaction. If the taxpayer-assessed taxes and other nonexchange revenues of one government are administered or collected by another, and the reporting government cannot obtain the accrual information it needs, this Statement provides certain revenue recognition alternatives. ii [Completely Superseded] Governmental fund expenditures include operating, capital, and debt service expenditures. Governmental fund operating expenditures that arise from exchange transactions generally should be recognized when the transactions that result in a claim against financial resources take place, regardless of when cash is paid. This includes recognizing expenditures for prepaid items and supplies using the consumption method. Compensated absences for other than sick leave should be recognized as expenditures when the benefits are earned by the employees. An expenditure accrual for earned sick leave should be made only if a vesting benefit is expected to result in a termination payment; otherwise, expenditures for sick leave benefits should be recognized as expenditures when the leave is taken. This Statement establishes basic definitions of general long-term capital debt and operating debt. General long-term capital debt is the long-term financing incurred to acquire capital assets or to provide financial resources for certain nonrecurring projects or activities that have long-term economic benefit. Operating debt is debt that provides financial resources to and is expected to be repaid from the financial resources of governmental funds but does not meet the definition of general long-term capital debt. Operating debt includes debt issued to finance operations. The issuance and repayment of general long-term capital debt has an operating statement effect in a flow of financial resources measurement focus. The issuance and repayment of operating debt does not. This Statement is effective for financial statements for periods beginning after June 15, 1994. Unless otherwise specified, pronouncements of the GASB apply to financial reports of all state and local governmental entities, including public benefit corporations and authorities, public employee retirement systems, and governmental utilities, hospitals, colleges, and universities. Paragraph 32 discusses the applicability of this Statement. iii [Completely Superseded] Statement No. 11 of the Governmental Accounting Standards Board Measurement Focus and Basis of Accounting— Governmental Fund Operating Statements May 1990 Governmental Accounting Standards Board of the Financial Accounting Foundation 401 Merritt 7, PO Box 5116, Norwalk, Connecticut 06856-5116 iv [Completely Superseded] Copyright © 1990 by Financial Accounting Foundation. All rights reserved. Content copyrighted by Financial Accounting Foundation may not be reproduced, stored in a retrieval system, or transmitted, in any form or by any means, electronic, mechanical, photocopying, recording, or otherwise, without the prior written permission of the Financial Accounting Foundation. v [Completely Superseded] Statement No. 11 of the Governmental Accounting Standards Board Measurement Focus and Basis of Accounting--Governmental Fund Operating Statements May 1990 CONTENTS Paragraph Numbers Introduction and Background Information ....................................................................1– 31 Scope of This Statement ................................................................................................1 Relationship of the Conclusions Reached in This Statement to Other Board Projects ....................................................................................................2 Definition of Terms........................................................................................................3 Background—The Governmental Environment .....................................................4– 24 The Performance Goals and Measures of Governmental-Type Activities ..........6– 8 The Use of Budgets and Other Financial Controls ............................................. 9– 14 Focus of Governmental Budgets ............................................................................11 Budgetary and Financing Intent ......................................................................12– 14 The Use of Fund Accounting .............................................................................15– 19 Interperiod Equity and the Relationship between Revenues and Services ........20– 24 Flow of Financial Resources Measurement Focus................................................25– 31 Operations versus Financial Position Emphasis .......................................................27 Expenditure Recognition and Measurement Based on Funding Methods ........28– 30 Treatment of Operating Debt ....................................................................................31 Standards of Governmental Accounting and Financial Reporting .............................32– 99 Applicability of This Statement ...................................................................................32 Flow of Financial Resources: General Principles .................................................33– 37 Revenues ...............................................................................................................38– 68 Taxes ..................................................................................................................40– 53 General Recognition Criteria ..........................................................................41– 47 Delinquency Accrual and Taxes Discovered through Audit ......................42– 43 Final Settlements ...............................................................................................44 Revenue Reduction for Overdemand ................................................................45 Interest, Penalties, and Uncollectible Amounts ..........................................46– 47 Sales Taxes.............................................................................................................48 Income Taxes .........................................................................................................49 Taxpayer-Assessed Taxes Administered or Collected by Another Government ...........................................................................................50 Property Taxes ................................................................................................51– 52 Other Taxes ............................................................................................................53 Other Nonexchange Revenues ...........................................................................54– 61 vi [Completely Superseded] Paragraph Numbers General Recognition Criteria .................................................................................54 Fines ................................................................................................................55– 56 Licenses and Permits .......................................................................................57– 58 Donations ........................................................................................................59– 60 Other Nonexchange Revenues Administered or Collected by Another Government ......................................................................61 Exchange Revenues ...........................................................................................62– 68 General Recognition Criteria .................................................................................62 Charges for Services ..............................................................................................63 Investment Gains, Losses, and Income ...........................................................64– 67 Operating Leases ....................................................................................................68 Other Financing Sources .......................................................................................69– 71 Capital Leases and Sales of Capital Assets ........................................................70– 71 Residual Equity Transfers-In .......................................................................................72 Expenditures .........................................................................................................73– 82 Operating Expenditures .....................................................................................74– 81 Prepaid Items..........................................................................................................75 Supplies Inventories ...............................................................................................76 Compensated Absences ..................................................................................77– 80 Operating Leases ....................................................................................................81 Capital Expenditures .................................................................................................82 Other Financing Uses ...................................................................................................83 Residual Equity Transfers-Out.....................................................................................84 Debt .......................................................................................................................85– 98 General Long-Term Capital Debt ......................................................................86– 93 Definition ........................................................................................................86– 88 Debt Issuance ..................................................................................................89– 90 Long-Term Vendor Financing ........................................................................91– 92 Debt Extinguishment and Defeasance, including Refunding ................................93 Operating Debt ...................................................................................................94– 98 Definition ...............................................................................................................94 Debt Issuance ..................................................................................................95– 96 Debt Service ...........................................................................................................97 Long-Term Vendor Financing ...............................................................................98 Expendable Trust Funds ..............................................................................................99 Effective Date and Transition ..........................................................................................100 Appendix A: Basis for Conclusions ........................................................................101–259 Appendix B: Glossary .....................................................................................................260 Appendix C: Illustration of the Calculation of Tax Revenues ........................................261 vii [Completely Superseded] Statement No. 11 of the Governmental Accounting Standards Board Measurement Focus and Basis of Accounting--Governmental Fund Operating Statements May 1990 INTRODUCTION AND BACKGROUND INFORMATION Scope of This Statement 1. This Statement establishes measurement focus1 and basis of accounting standards for governmental fund operating statements. It also applies to expendable trust fund operating statements. This Statement provides guidance for balance sheet reporting of only general long-term capital debt; guidance for balance sheet reporting of other liabilities arising from or related to the operations of governmental funds will be provided in a subsequent Statement on financial reporting. Also, because standards will be provided in other Statements, this Statement does not provide specific operating statement recognition and measurement criteria for certain transactions.2 1Terms defined in the glossary (Appendix B) are printed in boldface type the first time they are used. 2Issues related to the recognition and measurement in governmental fund operating statements of pension expenditures; other postemployment benefits; special termination benefits; claims and judgments and related insurance transactions; capital improvement special assessment transactions; intergovernmental grants, entitlements, and shared revenues; operating expenditures resulting from nonexchange transactions; and debt service expenditures on general long-term capital debt are being considered in other Board projects. This Statement, however, provides basic guidance to those projects; specifically, operating statement recognition and measurement criteria should be developed within the context of the flow of financial resources measurement focus and an accrual basis of accounting. Guidance for balance sheet reporting of liabilities arising from those transactions will be provided in a subsequent Statement on financial reporting. 1 [Completely Superseded] Relationship of the Conclusions Reached in This Statement to Other Board Projects 2. Governmental financial reporting currently is in an evolutionary phase, and the Board has many issues to address before it has been reviewed in its entirety. In fact, the Board has many issues to address before the standards in this Statement can become effective. This Statement establishes basic principles that are needed for developing the guidance in other projects, especially certain expenditure recognition and measurement standards that will be implemented at the same time as this Statement. Issuing this Statement at this time provides governments the time to develop the information systems needed to implement the changes required by this Statement. Definition of Terms 3. Certain definitions are presented here to provide a frame of reference for the discussion that follows. Definitions of these and other terms are presented in Appendix B of this Statement. a. b. c. d. Measurement focus refers to what is being expressed in reporting an entity’s financial performance and position. A particular measurement focus is accomplished by considering not only which resources are measured, but also when the effects of transactions or events involving those resources are recognized (the basis of accounting). Basis of accounting refers to when the effects of transactions or events should be recognized for financial reporting purposes. For example, the effects of transactions or events can be recognized on an accrual basis (that is, when the transactions or events take place) or on a cash basis (that is, when cash is received or paid). Basis of accounting is an essential part of measurement focus because a particular timing of recognition is necessary to accomplish a particular measurement focus. Assets are probable future economic benefits obtained or controlled by a particular entity as a result of past transactions or events.3 Assets include financial resources and capital assets. Financial resources are cash, claims to cash (for example, debt securities of another entity and accounts and taxes receivable), claims to goods or services (for example, prepaid items), consumable goods (for example, supplies inventories), and equity securities of another entity obtained or controlled as a result of past transactions or events. 3This is a tentative definition of assets for purposes of governmental accounting and financial reporting and is taken from paragraph 25 of FASB Concepts Statement No. 6, Elements of Financial Statements. Additional information pertaining to the FASB’s definition of assets can be found in that Statement in paragraphs 26 through 34. 2 [Completely Superseded] e. f. g. h. i. j. k. Supplies inventories are materials and supplies obtained or controlled as a result of past transactions or events and that are for use in operations. A prepaid item is an asset account reporting payments in advance for unreceived goods or services acquired in exchange transactions. Prepaid items are for such items as insurance and rent. Capital assets are long-lived, tangible assets (for example, equipment, buildings, land, and infrastructure) obtained or controlled as a result of past transactions or events. Governmental-type activities are those activities of a government that are carried out primarily to provide services to citizens and that are financed primarily through taxes and intergovernmental revenues. Governmental funds are those funds generally used to account for and report on governmental-type activities. Depending on the sources of financial resources and the nature of the activities reported, governmental funds are classified into one of four fund types: general, special revenue, debt service, and capital projects. Account groups are self-balancing sets of accounts used to account for and report on certain general fixed assets and certain general long-term debt4 associated with or arising from the flow of financial resources measurement focus of governmental fund operating statements. Interperiod equity measurement is the measure of whether current-year revenues were sufficient to pay for current-year services. A measure of interperiod equity would show whether current-year citizens received services but shifted part of the payment burden to future-year citizens or used up previously accumulated resources. Conversely, such a measure would show whether current-year revenues not only were sufficient to pay for current-year services, but also increased accumulated net resources. Background—The Governmental Environment 4. As required in the Standards section of this Statement, the measurement focus for governmental fund operating statements should be the flow of financial resources measurement focus. The operating results expressed using this measurement focus show the extent to which financial resources obtained during a period are sufficient to cover claims incurred during that period against financial resources. This measurement focus considers financial resources only and uses an accrual basis of accounting. Therefore, the flow of financial resources measurement focus does not include a periodic operating charge such as depreciation for the using up of capital assets and is not intended to fully accomplish a measure of cost of services. Rather, it measures the effects on financial 4Because of the requirements of the Standards section of this Statement, Appendix B refers to general longterm capital debt instead of general long-term debt in its definition of account groups. 3 [Completely Superseded] resources of acquisitions and dispositions of capital assets and the issuance and repayment of debt for capital purposes. 5. The measurement focus used to express an entity’s financial performance is necessarily influenced by various factors, including its operating environment and the needs of users of its financial reports. Significant environmental characteristics and the needs of users of governmental financial statements are discussed in GASB Codification Section 100, ―Objectives of Financial Reporting.‖5 The factors that have been considered in establishing the flow of financial resources measurement focus for governmental fund operating statements are: a. b. c. d. The performance goals and measures of governmental-type activities. The use of budgets and other financial controls. The use of fund accounting. Interperiod equity and the relationship between revenues and services. The effects of these factors are discussed in the paragraphs that follow. The Performance Goals and Measures of Governmental-Type Activities 6. The most important objective of governmental financial reporting, as presented in Cod. Sec. 100.177, is accountability; that is, ―financial reporting should assist in fulfilling government’s duty to be publicly accountable and should enable users to assess that accountability.‖ Implicit in government’s duty to be accountable is the need to report on whether certain goals have been achieved. Accounting, therefore, should help measure progress toward those goals to provide a basis for evaluating performance. 7. The primary performance goal for private-sector business enterprises is generating profit, a goal that is measurable in financial terms. The private-sector measurement focus, therefore, provides information about financial performance by providing measures of earnings and its components. Measures of earnings focus on particular operating periods and measure the benefits from and the costs of operations and other transactions, events, and circumstances that affect an enterprise during those particular periods. 5Further references to the GASB June 15, 1987 Codification of Governmental Accounting and Financial Reporting Standards may be abbreviated. For example, Section 100, paragraph .101, would be referred to as Cod. Sec. 100.101. 4 [Completely Superseded] 8. In contrast, the primary performance goal for state and local governmental entities is providing optimum services for their citizens within the limits of available resources. This is a complex, multidimensional goal that cannot be measured with a single measure of performance such as earnings. In the absence of a single performance measure, governmental entities should provide several measures for assessing accountability by, for example, (a) showing whether revenues were raised in an amount sufficient to pay for the services provided (interperiod equity), (b) demonstrating adherence to budgetary authorizations and limitations and other finance-related legal or contractual provisions, and (c) measuring service efforts, costs, and accomplishments. The measure of interperiod equity is one measure of a governmental entity’s financial performance. To be relevant to the governmental environment and the needs of users of governmental financial statements, the measurement focus for governmental fund operations should consider not only the measurement of interperiod equity, but also the roles played by budgets and fund accounting, two significant control mechanisms that result from the structure of government. The Use of Budgets and Other Financial Controls 9. Financing is an important part of the governmental environment, particularly for governmental-type activities. For those activities, the budget is the primary method of directing and controlling the financing process. Although factors outside the actual budget process may also affect governmental financing (such as the ability to issue short-term revenue, tax, and bond anticipation notes), it is primarily through budgets that governments establish performance goals for the period, especially financial performance goals. 10. Because the budget is the primary means of establishing financial performance goals for governmental-type activities, the focus and intent of budgets should be considered in selecting a measurement focus for those activities. In addition, most users are familiar with governments’ use of budgets to establish those goals and may not find financial reports useful if they are prepared in completely different terms and contexts. Focus of Governmental Budgets 11. Because most governmental budgets usually focus on financing a period’s governmental-type activities, they are usually expressed in terms of financial resources, showing the availability of existing financial resources, the anticipated inflows of new 5 [Completely Superseded] financial resources, and the anticipated outflows of financial resources. Budgets generally do not include depreciation of capital assets; instead, they show outflows of financial resources for the acquisition of capital assets and inflows from debt issued to acquire those assets. The sources of financing for general fixed assets and the expenditures made for them are important financial information that traditionally has been reported in governmental fund operating statements.6 Governments also budget outflows of financial resources to make debt service payments. Some governments may also budget inflows and outflows for short-term borrowings against anticipated revenues, taxes, and bond proceeds. Budgetary and Financing Intent 12. Governmental budgets are often required by law to be ―in balance.‖ However, the definition of in balance varies among governmental jurisdictions. For example, in some cases, balance is achieved if cash on hand plus budgeted cash receipts equals budgeted cash payments. In other cases, balance is achieved if available fund balance plus budgeted revenues equals budgeted expenditures. In addition to balanced budget requirements, some states have debt limitation laws that allow long-term debt to be issued only for the acquisition of capital assets and require that debt to be repaid over a period no greater than the probable useful life of the assets acquired. 13. Budgetary laws and practices are not consistent among governments. Also, because the provisions of these laws are not always clear, the budgetary intent of balance often can be avoided. A measurement focus for governmental-type activities that relies solely on an individual entity’s budgetary laws and practices cannot provide financial statement users with consistent, comparable financial reporting for an entity over time and among entities. Because of the need for uniform financial reporting, the Board believes it is appropriate to develop standards for performance measurements for governmental-type activities not so much from the wording or application of specific budgetary laws, but from the intent of budgetary laws in general. 14. As noted in Cod. Sec. 100.159, the intent of balanced budget and debt limitation laws is to require financing and spending practices that enable governmental entities to 6Governments do not have owners to contribute to the capital base needed to establish and support an ongoing operation; neither do they attempt to maintain capital by budgeting for revenues to cover the using up of capital assets. Governments build and maintain their capital assets from existing resources, currentyear revenues, or long-term financing. 6 [Completely Superseded] avoid financial difficulty and to ―live within their means.‖ The general objective of these laws is that the current-year citizens should not be able to shift the burden of paying for current-year services to future-year taxpayers. In that section, the Board refers to this concept as interperiod equity. It concluded that the measure of interperiod equity is essential to accountability in governmental financial reporting and established it as an objective of financial reporting. The Board’s emphasis on interperiod equity, then, is based in part on the spirit of governmental balanced budget laws. The Use of Fund Accounting 15. The diversity of governmental operations and the need to achieve and demonstrate legal compliance and to enhance financial administration have resulted in an accounting and financial reporting model that does not record and summarize all governmental financial activities and balances in a single accounting entity. A governmental entity is a combination of several separate and different fiscal and accounting entities (funds and account groups), each reporting certain assets, liabilities, and equity or other balances and the changes in them. 16. Three categories of fund types are used in governmental accounting: governmental, proprietary, and fiduciary.7 Two account groups also are used in governmental accounting: the General Fixed Assets Account Group (GFAAG) and the General Long-Term Debt Account Group (GLTDAG). Historically, governmental funds have been used to report the activities and balances related to the financing of governmentaltype activities, and the account groups have been used to maintain control and accountability over certain capital assets and long-term liabilities associated with or arising from the flow of financial resources measurement focus of governmental fund operating statements. 17. State and local governmental entities use four types of governmental funds: general, special revenue, debt service, and capital projects. Activities and balances are accounted for in one of these fund types depending on the sources of financial resources, the nature 7Some governmental colleges and universities follow the specialized industry accounting and reporting principles contained in the American Institute of Certified Public Accountants (AICPA) Industry Audit Guide, Audits of Colleges and Universities, which uses different fund types from those required by governmental accounting and financial reporting standards. GASB Codification Section 2600, ―Reporting Entity and Component Unit Presentation and Disclosure,‖ paragraph .109, provides for the presentation of this other reporting model in governmental financial statements through the use of discrete presentation. 7 [Completely Superseded] of the activities reported, and the need to maintain separate funds for legal compliance and accountability purposes. 18. The GASB Research Report, The Needs of Users of Governmental Financial Reports (October 1985), shows that financial report users want financial information based on funds. This Statement has been developed within the context of fund accounting and the existing funds structure for governmental financial reporting; the Board will consider how funds should be reported (display), including funds structure, in its financial reporting project. 19. Existing governmental accounting and financial reporting standards provide only general guidance about which activities should be accounted for in which of the various fund categories, particularly as to governmental versus proprietary. It allows governments the flexibility to determine within present financial reporting options the measurement focus that expresses the performance goal of a particular activity and to account for and report on it accordingly. Other Board projects will examine various issues on whether particular activities should be reported in particular fund categories. For purposes of this Statement, however, the Board presumes that the activities being reported in governmental funds are those financed primarily through taxes and intergovernmental revenues (governmental-type activities), rather than through user charges. Interperiod Equity and the Relationship between Revenues and Services 20. Measuring interperiod equity requires comparing the revenues obtained by the governmental entity with a financial measure of the services it provides. Further, a meaningful comparison requires that the two have some relationship that makes them comparable. The methods used to measure net income for private-sector business enterprises are suited to their environment in which revenues generally have a direct relationship to expenses and generating profits is a financial performance goal. However, this is not the case in government, especially for governmental-type activities. 21. In private-sector business enterprises, most revenues and expenses have a direct relationship to each other; they can be matched. For example, a typical business transaction involves a simultaneous recognition of the benefit (sales revenue) and sacrifice (cost of goods sold) of providing a product, and the difference between the two is gross profit. Of course, private-sector business enterprises have many costs that do not bear such a direct relationship to revenues but can nevertheless be associated with a particular 8 [Completely Superseded] period on the basis of transactions or events taking place in that period or by allocation. Costs that benefit a single period (such as for electricity, water, and other utilities) are recognized as expenses in the period incurred. Costs that benefit several periods (such as for prepaid insurance) are allocated to those periods on a systematic and rational basis. Costs that provide no ―benefit‖ (such as for liability claims) are generally recognized as expenses in the period an asset is impaired or a liability is incurred. 22. For most governmental activities, particularly governmental-type activities, there ordinarily is no direct matching relationship between specific revenues and specific services. That is, except for certain user charges and intergovernmental revenues intended to pay for specific services, most governmental revenues are obtained from a variety of taxes levied against taxpayers who do not necessarily receive services directly proportionate to the taxes they pay. Nor do most revenues and services result from the same transaction; taxes obtained from a particular form of taxation are used (together with other resources) to pay for a variety of services. 23. Although specific revenues and specific services of governmental-type activities generally bear no direct relationship to each other, they both can be related directly to specific time periods. Because of this, revenues and services of governmental-type activities can be related to each other in the aggregate based on those time periods. An operating statement measurement focus that measures the relationship between aggregate revenues and aggregate services within a particular time period, therefore, is appropriate for measuring interperiod equity. The relationship of revenues and services to a specific time period can best be expressed in financial reporting by using an accrual basis of accounting. An accrual basis of accounting generally is necessary to measure interperiod equity because it recognizes the effects of transactions or events when they take place (a specific time period), regardless of when cash is received or paid. 24. The Board is aware that interperiod equity cannot be measured completely in the operations of any individual governmental fund, because budgetary and fund accounting 9 [Completely Superseded] practices cause governmental activities to be spread among a number of funds.8 At the same time, the Board recognizes the importance of funds. Many users of governmental financial statements are concerned with activities reported in individual funds; in particular, users are interested in the sources, uses, and balances of the general fund’s financial resources. To ensure that each fund provides information that best serves the objectives established in Cod. Sec. 100, the Board believes that measurements made in each governmental fund should contribute to measuring interperiod equity as much as possible. To achieve this, the activities of those funds should be measured on an accrual basis. Flow of Financial Resources Measurement Focus 25. Given the importance of the budget and other financing processes in the performance goals of government, the use of fund accounting, and the objective of measuring interperiod equity, the Board believes the measurement focus of governmental fund operating statements should be on the extent to which financial resources obtained during a period are sufficient to cover claims incurred during that period against financial resources. This measurement focus considers financial resources only and uses an accrual basis of accounting. The Board has adopted the term flow of financial resources for this measurement focus. 26. The flow of financial resources measurement focus requires governmental funds to recognize the effects of transactions or events on financial resources when they take place, regardless of when cash is received or paid. Financial resources are cash, claims to cash (for example, debt securities of another entity and accounts and taxes receivable), claims to goods or services (for example, prepaid items), consumable goods (for example, supplies inventories), and equity securities of another entity obtained or controlled as a result of past transactions or events. 8Even in the aggregate, the governmental funds cannot completely measure interperiod equity. This is because the governmental funds do not report all the activities and balances of a governmental entity. Further, measuring interperiod equity may require current-year services to be defined to include some charge for the financial effect of using up (or the decline in service capacity of) capital assets. However, other factors may make including such a measure in results of operations not meaningful or even misleading. The Board’s project on capital assets will address whether, how, in what amounts, and for which capital assets such measures should be reported in governmental financial statements, in other than governmental funds, without duplicating capital asset acquisition or debt service expenditures. 10 [Completely Superseded] Operations versus Financial Position Emphasis 27. It is possible that one potential treatment of transactions or events may be more appropriate for measuring results of operations, and an alternative treatment may be more appropriate for measuring assets and liabilities. For example, valuing inventories on a last-in, first-out (LIFO) method provides a measure of cost of goods sold that is closer to current value, whereas a first-in, first-out (FIFO) method provides a measure of the asset (inventory) that is closer to current value. Valuing inventories for financial reporting purposes depends on whether the emphasis of reporting is on results of operations or on financial position. The measure of interperiod equity, a measure of the extent to which current-year revenues were sufficient to pay for current-year services, is inherently oriented to results of operations. Further, the concept of interperiod equity is based on governmental performance goals and the intent of balanced budget laws, both of which focus primarily on operations for the period rather than on financial position. Therefore, accounting standards based on a concept of measuring interperiod equity emphasize results of operations. Expenditure Recognition and Measurement Based on Funding Methods 28. The Board will provide the detailed criteria for recognition and measurement of pensions in a separate Statement. The Board also intends to reexamine recognition and measurement of compensated absences. In developing those Statements, the Board intends to apply the flow of financial resources measurement focus. GASB Statement No. 10, Accounting and Financial Reporting for Risk Financing and Related Insurance Issues (November 1989), provides guidance on recognition and measurement of risk financing and related insurance transactions using that measurement focus. Generally, the Board believes that recognizing expenditures when the underlying transactions or events take place and measuring those expenditures using methods that are already generally accepted in private-sector business enterprise financial reporting will help accomplish the objective of measuring interperiod equity. However, the Board believes that may not always be the case. In some situations, it may be appropriate to recognize transactions or events as affecting more than just the period in which they take place. Furthermore, in other situations, measurements other than those used in private-sector business enterprise financial reporting may be needed to demonstrate interperiod equity in governmental financial reporting. 11 [Completely Superseded] 29. As discussed earlier, the budget is the primary method used by governmental entities to direct and control the financing process for governmental-type activities. The Board recognizes that some budgetary practices fail to attribute expenditures to the appropriate period, as when funds are budgeted entirely on a cash basis, making it necessary to use accounting techniques (such as accruals) to measure the extent to which interperiod equity has been achieved. Therefore, the accounting recognition of transactions should consider budgetary methods, but it should not be driven by them. 30. On the other hand, other budgetary practices may be designed specifically to achieve interperiod equity. For example, by using actuarial funding methods to determine budgetary pension expenditures, governments attempt to provide appropriate amounts for future cash outflows arising from current service. The Board intends to explore whether budgetary funding methods designed to achieve interperiod equity for certain types of expenditures meet the test of being ―systematic and rational‖ and, therefore, warrant use for expenditure recognition and measurement purposes. The Board may consider this approach in situations involving long-term liabilities that are complex and uncertain, that are paid either over a long period of time or long after their incurrence, or for which a period of transition is warranted, such as pensions, other postemployment benefits, claims and judgments, compensated absences, and capital debt service. The Board expects this approach will be limited to specific transactions or events as identified by the Board and should not be applied unless specifically provided for in a Board pronouncement. Treatment of Operating Debt 31. The flow of financial resources measurement focus does not recognize all sources and uses of financial resources in the operating statement. This Statement makes a distinction between debt issued for capital purposes and debt issued to finance operations or in anticipation of revenues (operating debt). This is because debt issued to finance operating deficits or operating cash needs provides no benefit to future-year citizens. The issuance of operating debt should not be recognized in the operating statement as an inflow of financial resources. Also, repayments of that debt principal should not be recognized in the operating statement as an outflow of financial resources. An operating statement based on the measure of interperiod equity within the context of financial resource flows should report the extent to which the entity’s operating expenditures were covered by its revenues. Interperiod equity cannot be measured (and should not be 12 [Completely Superseded] reported as having been achieved) by reporting borrowings for operating purposes as an inflow of financial resources. STANDARDS OF GOVERNMENTAL ACCOUNTING AND FINANCIAL REPORTING Applicability of This Statement 32. The requirements of this Statement apply to all state and local governmental entities that report using governmental funds and account groups or expendable trust funds as described in Codification Section 1300, ―Fund Accounting,‖ paragraph .104a, c, and d.9 A future Statement will provide instructions to show how the provisions of this Statement will supersede portions of and be integrated into the Codification. Flow of Financial Resources: General Principles 33. Governmental funds are those funds generally used to account for and report on governmental-type activities. The operating statements for these funds measure the extent to which financial resources obtained during a period are sufficient to cover claims incurred during that period against financial resources. This flow of financial resources measurement focus considers financial resources only and uses an accrual basis of accounting; accordingly, it recognizes the effects of transactions or events on financial resources when they take place, regardless of when cash is received or paid. As discussed in paragraph 37, account groups are used to report certain capital assets and certain capital debt associated with governmental-type activities. 34. Financial resources are cash, claims to cash (for example, debt securities of another entity and accounts and taxes receivable), claims to goods or services (for example, prepaid items), consumable goods (for example, supplies inventories), and equity securities of another entity obtained or controlled as a result of past transactions or events. 35. Transactions or events may take place in one period and result in cash receipts or payments in either the same period or another period. As applied to specific transactions 9Some governmental colleges and universities report their transactions and balances in governmental funds and account groups using NCGA Statement 1, Governmental Accounting and Financial Reporting Principles. This Statement applies to those governmental colleges and universities. However, this Statement does not apply to those governmental colleges and universities that follow the specialized industry accounting and reporting principles contained in the AICPA Industry Audit Guide, Audits of Colleges and Universities. 13 [Completely Superseded] in this Statement, transactions and events that affect financial resources should be recognized when they take place, regardless of when cash is received or paid. 36. Revenues, operating expenditures, and interfund operating and residual equity transfers are the result of transactions or events that affect financial resources. Also, the acquisition, disposition, and long-term financing of capital assets and the long-term financing of certain nonrecurring projects or activities that have long-term economic benefit10 are transactions that affect financial resources. However, as discussed in paragraph 95, the debt financing of operations is not reported in the operating statement as transactions that affect financial resource flows. 37. The General Fixed Assets Account Group (GFAAG) and the General Long-Term Debt Account Group (GLTDAG) are self-balancing sets of accounts used to account for and report on certain capital assets and certain capital debt associated with and arising from governmental-type activities (general fixed assets and general long-term capital debt, respectively). Their use is associated with or arises from the flow of financial resources measurement focus of governmental fund operating statements. Revenues 38. Governmental fund revenues usually result from taxation and from other nonexchange transactions and events, such as fines, fees for licenses and permits, and donations. Governmental fund revenues also result from exchange transactions—such as charges for services, investments, and operating leases. This section gives guidance for recognizing and measuring governmental fund revenues. 39. Receivables usually are reported at the same time that revenue is recognized. However, amounts that are due before revenue recognition criteria are met should be reported as receivables and deferred revenue. Cash collected before revenue recognition criteria are met also should be reported as deferred revenue. Revenues and receivables should be reduced by an appropriate allowance for amounts estimated to be uncollectible. 10See footnote 30. 14 [Completely Superseded] Taxes 40. Taxes are compulsory payment requirements imposed by governments on their citizens and other taxpayers to obtain the resources needed to provide services. From an accounting perspective, two factors need to be considered in recognizing tax revenue: a. b. The underlying transaction or event. One factor to be considered in recognizing tax revenue is the nature of the taxable transactions or events. A tax can be based on particular transactions or events, or it can be based on transactions or events that take place over or relate to a period of time. Sales tax is an example of a tax that is based on particular transactions or events (retail sales). Income and property taxes are examples of taxes that are based on transactions or events that take place over a period of time (income earned over the course of a year, and the budgetary [fiscal] period for which the property tax is levied, respectively). The demand for taxes. The fact that taxation is confiscatory also should be considered in recognizing revenue. To obtain tax resources, a government must demand the payment. A government’s demand for taxes is evidenced by imposing a due date for payment. One of the criteria for revenue recognition is that the taxes must be due on or before the end of the period. However, for taxpayer-assessed taxes (for example, income and sales taxes), governments allow an ―administrative lead time‖ to permit taxpayers to calculate the taxes they owe as of a particular prior date. For example, governments may allow merchants until July 15 to close their books for the quarter ending June 30 and to calculate and report the sales tax owing for that period. Allowing this ―administrative lead time‖ does not disturb the fact that the taxes have been demanded as of June 30. General Recognition Criteria 41. Tax revenue should be recognized if both of these criteria are met, regardless of when cash is received: a. b. The underlying transaction or event has taken place. The government has demanded the taxes from the taxpayer by establishing a due date on or before the end of the period. However, taxpayer-assessed taxes with a due date within two months after the end of the period to allow for ―administrative lead time‖ should be considered as having been demanded as of the end of the period. Delinquency accrual and taxes discovered through audit 42. Tax revenue accruals should include an accrual for delinquent taxes, that is, taxes that meet the above criteria but that are not received when due. The delinquency accrual for taxpayer-assessed taxes should consider only those amounts that taxpayers are late in 15 [Completely Superseded] reporting or remitting. The revenue from delinquent taxes should be calculated based on amounts that are (a) received before financial statements are issued, (b) reported but not received before financial statements are issued, and (c) expected to be reported after financial statements are issued based on the history of delinquencies that ―trickle in‖ after financial statements are issued.11 Amounts reported based on historical trends should be adjusted for tax law and other changes that would distort historical trends. 43. The delinquency accrual should not include unreported or underreported taxes arising from taxpayer noncompliance with reporting or other tax laws and that the government expects to discover through taxpayer audit. Taxes that are discovered through government audit should be recognized in the current period only if assessed (billed) before financial statements are issued. Final settlements 44. Additional payments and refunds in final settlement of income and other taxpayerassessed taxes should be recognized in revenue if the settlement relates to a taxable period ending on or before the government’s fiscal year-end and the final settlement is due within two months after the government’s fiscal year-end. These settlements are referred to in this Statement as current final settlements.12 The revenue from current final settlements should be calculated based on the additional payments and refunds that are (a) received or paid before financial statements are issued, (b) reported but not received or paid before financial statements are issued, and (c) expected to be reported after financial statements are issued based on the history of delinquent final settlement filings that ―trickle in‖ after financial statements are issued.13 Estimates of additional payments and refunds for future 11As a practical matter, governments establish a cut-off date for obtaining actual information for accruals. Therefore, the history-based delinquency accrual would be the amounts expected to be reported after the cutoff date for preparing financial statements. 12The following is an example of a current final settlement. Assume a state with a June 30 fiscal year-end. Individuals pay state income taxes based on a calendar year, with a final settlement due date of April 15. The final settlement of calendar-year 19X3 taxes, which is due April 15, 19X4, is a current final settlement during the state’s fiscal year ending June 30, 19X4. 13The history-based accrual estimate should be based on such things as, for example, the history of final settlement additional payments and refunds in relation to withholding and estimated payment receipts. This accrual estimate should be adjusted for tax law and other changes, such as changes in tax rates or economic conditions, that would distort historical trends. 16 [Completely Superseded] final settlements14 of income and other taxpayer-assessed taxes should not be recognized in revenue of the current period. However, revenue should be reduced and a liability reported for structural overdemand as discussed in the following paragraph. Revenue reduction for overdemand 45. If the government has structured an overdemand for tax payments (for example, through an excess payment requirement built into the income tax withholding or estimated payments system), it should reduce revenue for the effect of the overdemand for those taxes that are subject to future final settlement. The amount of revenue reduction for structural overdemand should be reported as a liability. Additional revenue should not be recognized for structural underdemand through withholding or estimated payments. Interest, penalties, and uncollectible amounts 46. Interest on unpaid taxes should be recognized as revenue as it accrues over time, and penalties should be recognized as revenue when they are assessed. 47. Tax revenue and receivables should be reduced by an appropriate allowance for uncollectible amounts. Sales Taxes 48. Sales tax revenue should be recognized when the sale takes place, provided the government has demanded the taxes, regardless of when cash is received by the taxing government. If taxpayers are allowed administrative lead time to calculate their tax liability for sales that take place at or before the end of the period, taxes should be considered as demanded as of the end of the period if the due date is within two months after the end of the period. (An illustration of the calculation of sales tax revenue is provided in Appendix C.) Sales tax revenue should include not only amounts that are received when due, but also those amounts that are delinquent. Details about recognizing and measuring the sales tax revenue accrual, receivables, and refund liabilities follow. 14Future final settlements are those final settlements that (a) relate to a taxable period ending after the government’s fiscal year-end or (b) relate to a taxable period ending on or before the government’s fiscal year-end but for which the final settlement is due more than two months after the government’s fiscal yearend. As an example of a future final settlement, assume a state with a June 30 fiscal year-end. Individuals pay state income taxes based on a calendar year, with a final settlement due date of April 15. The final settlement of calendar-year 19X4 taxes, which is due April 15, 19X5, is a future final settlement during the state’s fiscal year ending June 30, 19X4. 17 [Completely Superseded] a. b. c. d. e. Delinquency accrual. The accrual for delinquent sales taxes should be based on known data (current sales taxes reported but not received, or current amounts received in cash after the due date) and historical trends (amounts expected to be reported after financial statements are issued based on the history of delinquencies that ―trickle in‖ after financial statements are issued). Amounts reported based on historical trends should be adjusted for tax law and other changes that would distort those trends. Audit adjustments for unreported sales taxes. Governments often discover sales taxes owing for prior or current periods through audits of the taxpayers. Revenue should be recognized in the current period for assessments (billings) made during the period as well as for those made after the period and before financial statements are issued. Audit adjustment revenue should be based on actual amounts assessed against individual taxpayers, not on estimates or historical trends. Refund liabilities. Usually, sales taxes are not subject to a final settlement cycle. However, governments should report a liability and reduce revenue for any sales taxes expected to be refunded. Interest and penalties on unpaid taxes. Interest on unpaid taxes should be recognized as revenue as it accrues over time, and penalties should be recognized as revenue when they are assessed. Uncollectibles. Sales tax revenue and receivables should be reduced by an appropriate allowance for uncollectible amounts. Income Taxes 49. Income tax revenue, including both individual and corporate income taxes, should be recognized in the period in which the related income is earned by the taxpayer, provided the government has demanded the taxes, regardless of when cash is received by the taxing government. If taxpayers are allowed administrative lead time to calculate their tax liability for income earned at or before the end of the period,15 taxes should be considered as demanded as of the end of the period if the due date is within two months after the end of the period. (An illustration of the calculation of income tax revenue is provided in Appendix C.) Income tax revenue should include not only amounts that are received when due, but also those amounts that are delinquent. Details about recognizing and measuring the income tax revenue accrual, receivables, and refund liabilities follow. a. Delinquent withholdings and estimated payments. The accrual for delinquent withholdings and estimated payments should be based on known data and historical trends adjusted for tax law and other changes that would distort those trends. The delinquency accrual based on known data should be calculated based on delinquent taxes that are (1) received before financial statements are issued and (2) reported but 15The administrative lead time for income taxes includes the time allowed employers to remit amounts withheld from employees’ wages. 18 [Completely Superseded] b. c. d. e. f. not received before financial statements are issued. The delinquency accrual based on historical trends should provide for delinquent taxes that history shows will ―trickle in‖ after financial statements are issued. Final settlements. Current final settlements should be recognized in revenue and should be calculated based on additional payments and refunds (1) received or paid before financial statements are issued, (2) reported but not received or paid before financial statements are issued, and (3) expected to be reported after financial statements are issued based on the history of delinquent final settlement filings that ―trickle in‖ after financial statements are issued. Current final settlements are those that relate to a taxable period ending on or before the government’s current fiscal year-end and that are due within two months after that year-end. Estimates of additional payments and refunds for future final settlements of income taxes should not be recognized in revenue of the current period. However, revenue should be reduced and a liability reported for structural overdemand, as discussed below. Revenue reduction for overdemand. Revenue from income taxes that are subject to a future final settlement should be reduced to the extent the government has structured an overdemand for tax payments, for example, through an excesspayment requirement built into the income tax withholding or estimated payments system. The amount of revenue reduction for structural overdemand should be reported as a liability. For example, assume a government requires calendar-year corporate taxpayers to pay 70 percent of their estimated income tax liability as of the government’s June 30 fiscal year-end. Revenue from estimated payments from these taxpayers should be reduced by the 20 percent structural overdemand. As another example, assume a government’s system is designed to withhold 10 percent more than an individual’s actual calendar-year tax liability based on a properly completed withholding form. For the government’s fiscal year ending June 30, 19X4, the government should reduce revenue from withholdings for wages paid from January 1, 19X4 through June 30, 19X4 by the 10 percent structural overdemand. (Revenue from withholdings for wages paid July 1, 19X3 through December 31, 19X3 should not be similarly reduced because the overwithholdings for that period already will have been accounted for through the current final settlement.) Revenue should not be recognized for structural underdemand through withholding or estimated payments. Audit adjustments for unreported income taxes. The government may discover income taxes owing for prior or current periods through audits of taxpayers. Revenue from income taxes discovered through audits should be recognized in the current period for assessments made during the period as well as for those made after the period and before financial statements are issued. That revenue should be based on actual amounts assessed against individual taxpayers, not on estimates or historical trends. Interest and penalties on unpaid taxes. Interest on unpaid taxes should be recognized as revenue as it accrues over time, and penalties should be recognized as revenue when they are assessed. Uncollectibles. Income tax revenue and receivables should be reduced by an appropriate allowance for uncollectible amounts. 19 [Completely Superseded] Taxpayer-Assessed Taxes Administered or Collected by Another Government 50. The criteria in this Statement for measuring and recognizing tax revenues apply regardless of whether the taxing government also administers and collects the taxes. However, some sales, income, and other taxpayer-assessed taxes are imposed by one government and administered or collected by another, and the taxing government is not able to obtain the accrual information it needs from the administering or collecting government. If so, the taxing government should recognize revenue for the period equal to (a) cash received during the period plus (b) cash received within one month after the end of the period (less amounts recognized as revenue in the previous period). Cash received more than one month after the end of the period also should be recognized as revenue if reliable information is consistently available to identify the amounts applicable to the current period. Property Taxes 51. When a property tax levy is made, it is to finance the budget of a particular period. Property (or ad valorem) tax revenue should be recognized in the budgetary (fiscal) period for which the taxes are levied, provided the government has demanded the taxes on or before the end of the period, regardless of when cash is received by the taxing government. The demand date for property taxes is the date those taxes are due. For purposes of recognizing revenue and reporting receivables, the due date is the last day before penalties or interest begin to accrue. In those cases in which the budgetary period for which levied and the property tax due date do not take place in the same fiscal year, revenue should be recognized and receivables reported as follows. a. b. Property taxes that are due after the budgetary period for which levied should be recognized as revenue in the period due. Property taxes that are received or receivable before the budgetary period for which levied should be reported as deferred revenue. Property tax receivables should be reported when the taxes become due. Property tax revenue, receivables, and deferred revenue should be reduced by an allowance for uncollectible amounts. (See Appendix C for illustration of the calculation of property tax revenue.) 20 [Completely Superseded] 52. The entity’s property tax calendar should be disclosed in the notes to financial statements. This disclosure should include levy dates, lien dates, due dates, and past-due or delinquent dates. Other Taxes 53. Revenues, receivables, and refund liabilities for other taxes should be recognized on an accrual basis using the general and specific guidance above. Other Nonexchange Revenues General Recognition Criteria 54. Other nonexchange revenues result from nonexchange transactions and events other than taxes, such as fines, fees for licenses and permits, and donations. Except as provided below, entities should recognize other nonexchange revenues when the underlying event takes place and the government has an enforceable legal claim to the amounts, regardless of when received. Fines 55. Fines are monetary penalties imposed by governments against those that commit statutory offenses or violate administrative rules. Revenue from fines should be recognized in the period the entity has an enforceable legal claim to the amounts, regardless of when cash is received. Conditions that constitute an enforceable legal claim for fines include (a) the date by which an individual may contest a court summons expires and the fine is automatically imposed, (b) the offender pays the fine before a court date, or (c) a court imposes the fine. Appropriate allowances should be made for uncollectible fines and fines expected to be waived through an appeals process. 56. If the accrual-basis recognition of fines as provided in paragraph 55 is not practicable, revenue from fines may be recognized on a cash basis. Licenses and Permits 57. Citizens and others pay fees for licenses and permits for the privilege of engaging in a regulated activity. Often, the fee is intended to cover a privilege granted to cover a particular period of time. Because the grantee of a license or permit generally has no legal right to exercise the privilege until the fee is paid, it is considered that, for purposes of 21 [Completely Superseded] revenue recognition, a government’s enforceable legal claim to license and permit fees arises when the fee is paid, provided the government has no obligation to refund amounts paid. Therefore, unless the entity wants to allocate the revenue over a period based on the criteria in paragraph 58, fees from licenses and permits should be recognized as revenue when received, provided there is no obligation to refund the amount. 58. In some cases, a government uses the fees from a license (or permit) to finance expenditures associated with the regulated activity during the license period. For example, a state may use annual professional licensing fees to finance the regulation of the professions during the same license year. In certain situations a government may want to defer and allocate the revenue from these fees over the license period because, for example, the revenue and expenditures are reported in a separate special revenue fund and the license fee is due in the period preceding the license period or the fee is for more than one fiscal period. In these cases, fees received should be deferred and recognized as revenue over the license period. Donations 59. For purposes of this Statement, donations16 are defined as voluntary contributions of resources to a governmental entity by a nongovernmental entity.17 Donations may be financial resources, such as cash or securities, or capital assets, such as land or buildings. Revenue from donations of financial resources should be recognized when the entity has an enforceable legal claim to the donation and it is probable the donation will be received, regardless of when the financial resources are received. Revenue should be measured at the estimated fair value of the financial resource donated. Except as discussed in the next paragraph, governments should not report revenue from the donation of a capital asset. 60. If an entity receives a donation of a capital asset and intends to sell the asset immediately, revenue should be recognized in the period the asset is donated, and the capital asset should be reported in the fund reporting the revenue as ―Assets held for sale.‖ Intent to sell should be evidenced by a sale of or contract to sell the capital asset before financial statements are issued. Revenue should be measured at the amount at which the 16The recognition criteria for donations should not be applied to pledges for future transfers of resources. Revenue recognition requirements for pledges will be established in another Board project. 17A voluntary contribution of resources between governmental entities is an intergovernmental transfer (grant). This guidance is not intended to apply to contributions from one governmental agency or unit to another. 22 [Completely Superseded] capital asset is sold or contracted to be sold. If the entity does not intend to sell the donated capital asset immediately or does not meet the intent criterion stated above, the donation should not be reported in the operations of the governmental funds. Instead, the receipt of the asset should be reported as a direct addition to the GFAAG at the estimated fair value of the asset donated, subject to the entity’s normal capitalization policies. Subsequent sale of the capital asset should be reported as an other financing source in accordance with paragraph 70. Other Nonexchange Revenues Administered or Collected by Another Government 61. The criteria in this Statement for measuring and recognizing other nonexchange revenues apply regardless of whether the reporting entity also administers and collects the amounts. However, some fines, fees for licenses and permits, and other nonexchange revenues are administered or collected by one government on behalf of another, and the reporting government is not able to obtain the accrual information it needs from the administering or collecting government. If so, the reporting government should recognize revenue for the period equal to cash received during the period. Cash received after the end of the period also should be recognized as revenue (less amounts recognized as revenue in the previous period) if reliable information is consistently available to identify the amounts applicable to the current period. Exchange Revenues General Recognition Criteria 62. Governmental fund revenues from exchange transactions—such as from charges for services, investments, and operating leases—should be recognized when earned, regardless of when cash is received. When earned means when the entity has done what it must do to complete its side of the transaction. Charges for Services 63. Citizens or others pay user fees as charges for specific goods or services. Revenues from user fees should be recognized in the period earned, regardless of when cash is received. Revenues from some user fees (for example, golf and swimming fees) are earned at the time they are collected. Revenues from other user fees, however, are not earned at the time they are collected. For example, a monthly garbage removal fee may be received in advance of the month of service. If so, the entity should report the receipt as 23 [Completely Superseded] deferred revenue until the service is provided. In other cases, the entity may provide the service before the fee is charged, for example, for snow removal. In these cases, the entity should recognize fee revenue and receivables when the service is performed. Investment Gains, Losses, and Income 64. Investment gains and losses should be recognized when an investment is sold. Investment income (interest and dividends) should be recognized in the period earned. Equity securities of governmental funds generally should be measured and reported at cost, and debt securities at cost or amortized cost.18 However, if the market value of either type of investment declines below its carrying amount and that decline is considered to be other than temporary,19 an estimated loss should be recognized in the fund’s results of operations and as a reduction of the carrying amount of the investment. Further, if the market value of an investment declines below its carrying amount and it is probable a loss will be realized in the future (for example, because the entity expects to sell the investment to meet its cash flow needs), an estimated loss should be recognized in the fund’s results of operations and as a reduction of the carrying amount of the investment. In both of these situations,20 the reduced carrying amount should become the investment’s new cost basis; recoveries in the price of the investment, if any, should not be recognized until the investment is sold or matures. 65. There will be cases, however, in which a valuation method other than cost or amortized cost should be used to measure and report investment securities. Generally, this involves situations in which the assets are specifically associated with liabilities to individuals, private organizations, and other governments, and the contract with those other parties requires that the assets be valued using another generally accepted valuation method. For example, if the pool agreement governing a state government’s management of an investment pool for its local governments provides for the valuation of the pool’s investments at market value, those investments should be valued at market in the state’s 18Codification Section I50, ―Investments, including Repurchase Agreements,‖ paragraph .164, requires note disclosure of the market value of investments. 19An other-than-temporary decline in the market value of a security would arise from situations affecting the issuer and the market price of its securities, such as default or bankruptcy. 20These requirements are applications of FASB Statement No. 5, Accounting for Contingencies, which requires, in part, that an estimated loss be recognized if (a) information available before financial statements are issued indicates that it is probable that an asset had been impaired at the date of the financial statements, (b) one or more future events will confirm the fact of the loss, and (c) the amount of the loss can be reasonably estimated. 24 [Completely Superseded] financial statements. Similarly, participating local governments should measure and report their investment in the pool at the value reported by the pool. 66. Investments in mutual funds should be measured and reported at redemption value, that is, the account balance reported to the entity by the fund. Changes in the mutual fund account balance (net asset value) from other than deposits and withdrawals should be recognized as investment income in the period posted by the mutual fund to the entity’s account. 67. Often, gains, losses, and income from investments reported by one fund become the assets of another fund because of legal or contractual provisions. In these cases, the accounting treatment should be based on the specific language of the legal or contractual provision. a. b. If the legal or contractual provision requires a transfer of the amounts to another fund, a transfer should be reported. For example, if state law requires that the earnings on the investments of a nonexpendable trust fund be transferred to an expendable trust fund, the amounts should be recognized as gains, losses, and income in the nonexpendable trust fund, and an operating transfer should be used to report the transfer to the expendable trust fund. If the legal or contractual provision simply requires that the investment gains, losses, and income become the assets of a fund other than the one reporting the investment, no transfer of resources should be reported. Instead, the amounts should be recognized as gains, losses, and income in the recipient fund. The fact that the amounts are from investments reported in other funds should be disclosed in the notes to financial statements. For example, if state law requires that all amounts earned by all investing activities of the state treasurer should accrue as revenue to the general fund, the gains, losses, and income on those investments should be recognized in the general fund, and that fact should be disclosed. If, however, amounts become the assets of another fund for reasons other than legal or contractual provisions, gains, losses, and income should be recognized in the fund reporting the investments. An operating transfer should be used to report the transfer of those amounts to the recipient fund. Operating Leases 68. Revenues result from operating leases. Capital assets held for operating lease and reported in the GFAAG should be reported in a separate caption. Codification Section L20, ―Leases,‖ provides guidance for distinguishing between capital and operating leases. 25 [Completely Superseded] If the operating lease agreement requires lease payments to be made on a level-payment basis, revenue for operating leases should be recognized as it accrues over the lease term and should be measured in accordance with the terms of the lease agreement. If the lease agreement specifies scheduled rent increases, the lease transaction should be accounted for as provided in GASB Statement No. 13, Accounting for Operating Leases with Scheduled Rent Increases (May 1990), and revenue should be recognized using an accrual basis of accounting. Other Financing Sources 69. Financial resources obtained from issuing general long-term capital debt, the sale or capital lease of capital assets, and interfund operating transfers-in should be reported as other financing sources. Paragraphs 85 through 98 provide guidance on reporting financing transactions. Codification Section 1600, ―Basis of Accounting,‖ paragraph .126, and Section 1800, ―Classification and Terminology,‖ paragraphs .106 and .107, provide guidance on reporting operating transfers. Capital Leases and Sales of Capital Assets 70. Capital leases and sales of capital assets should be reported as other financing sources. Capital assets held for capital lease or sale and reported in the GFAAG should be reported in a separate caption. The other financing source from a capital lease should be recognized at the inception of the lease term. Cod. Sec. L20 provides additional guidance for recognizing and reporting leases. The other financing source from a capital asset sale should be recognized when the asset is sold. 71. If an entity receives a long-term note for the sale of a capital asset in an arm’slength, exchange transaction,21 there is a general presumption that the note’s stated interest rate is fair and adequate unless (a) no interest rate is stated, (b) the stated rate is unreasonable,22 or (c) the face amount of the note differs materially from the cash sales price of the capital asset or the market value of the note. If (a), (b), or (c) exists, the entity should report the other financing source from the sale of the capital asset at the fair value 21Paragraphs 71, 92, and 98 are not intended to apply to other than arm’s-length, exchange transactions (for example, if a state government, acting in the public interest, sells a building to a political subdivision at less than fair value). As noted in footnote 24, the Board currently is conducting research on the accounting for certain nonexchange transactions. 22A stated interest rate would be unreasonable if it does not approximate the rate that an independent borrower and lender would have negotiated in a similar transaction. 26 [Completely Superseded] of the asset or at the market value of the note, whichever is more clearly determinable.23 A receivable equal to the face amount of the note should be reported in the governmental fund reporting the other financing source. The difference between the amount of the other financing source and the face amount of the note should be reported in the fund as a premium or discount. However, the receivable may be reported net (face amount adjusted for the unamortized premium or discount) in the fund’s balance sheet. Interest revenue on the note should be recognized as the interest accrues, based on the note’s effective interest rate; that is, the discount or premium should be amortized and reported as a component of interest revenue using the interest method. Principal payments on the note should be used to reduce the note receivable, with no effect on operations. Residual Equity Transfers-In 72. Financial resources obtained from residual equity transfers-in should be reported as additions to beginning fund balance, as required in Cod. Sec. 1800.106 and .107. Expenditures 73. Governmental fund expenditures include operating, capital, and debt service expenditures. Unless otherwise specified, expenditures should be recognized when transactions or events that result in claims against financial resources take place, regardless of when cash is paid. Paragraphs 74 through 82 discuss specific recognition criteria for operating and capital expenditures. Paragraph 97 discusses debt service expenditures. Operating Expenditures 74. Operating expenditures result from claims against financial resources that arise from transactions or events other than capital asset acquisitions, debt service, operating and residual equity transfers-out, and other transactions reported as other financing uses. 23In the absence of an established exchange price for the capital asset or evidence of the market value of the note, the present value of the note is determined by discounting all future payments using an imputed rate of interest. The imputed interest rate used should be one that approximates the rate that an independent borrower and lender would have negotiated in a similar transaction. 27 [Completely Superseded] Governmental fund operating expenditures result from exchange and nonexchange24 transactions or events. Operating expenditures that arise from exchange transactions generally should be recognized when the transactions that result in claims against financial resources take place, regardless of when cash is paid. For example, expenditures for salaries should be recognized in the period employees perform the work; expenditures for utilities should be recognized in the period the utility services are used. Prepaid Items 75. Prepaid items are payments in advance of the receipt of goods or services in exchange transactions. Prepayments are usually made for items such as insurance and rent. They are, in substance, a conversion of cash to another type of financial resource that will be used to satisfy future liabilities as they arise. Prepaid items should be reported as financial resources at the time of prepayment, and expenditures for prepaid services should be recognized when the related services are received. This recognition method is known as the consumption method. Supplies Inventories 76. Materials and supplies to be used in operations should be reported as financial resources when acquired, and recognized as expenditures when used. This recognition method is known as the consumption method. When acquired, materials and supplies are, in substance, a conversion of cash to another type of financial resource that will be used up in providing service in a future period. Compensated Absences25 77. Employee absences for which employees will be paid, such as vacation, sick leave, sabbatical leave, and holidays, are compensated absences. Compensated absences for 24The Board currently is conducting research on accounting for operating expenditures resulting from certain nonexchange transactions. Recognition and measurement standards for these transactions will be exposed for public comment and issued separately. Although the effective date of those standards is expected to be the same as for this Statement, the Board does not intend to delay the effective date of this Statement if those standards have not been completed. 25As explained in paragraphs 215 and 216 of the Basis for Conclusions, the Board intends to reconsider how to recognize and measure compensated absences expenditures using the flow of financial resources measurement focus and an accrual basis of accounting before this Statement becomes effective. 28 [Completely Superseded] other than sick leave26 should be recognized as expenditures when the benefits are earned by the employees. An employer should recognize an expenditure for future compensated absences for other than sick leave when all of these conditions are met: a. b. c. d. The employees’ rights to receive compensation for future absences are attributable to services already rendered. The rights are accumulating27 or vesting.28 Payment of the compensation is probable. The amount can be reasonably estimated. If an employer meets conditions a, b, and c and does not recognize an expenditure because condition d is not met, the fact that an expenditure has not been recognized should be disclosed in the notes to financial statements. 78. An expenditure accrual for earned sick leave should be made only if the benefit is vesting. Compensated absences for vesting sick leave should be recognized as expenditures when they are earned by the employees if (a) the employees’ rights to receive compensation for sick leave are attributable to services already rendered, (b) payment of the compensation as a termination benefit is probable, and (c) the amount can be reasonably estimated. Therefore, an accrual for earned sick leave should be made only to the extent it is probable the benefit will be used as a cash payout at termination rather than for an employee’s absence due to illness. If an employer does not recognize an expenditure for vesting sick leave because the amount cannot be reasonably estimated, the fact that an expenditure has not been recognized should be disclosed in the notes to financial statements. 26In accounting for compensated absences, the form of an employer’s policy for compensated absences should not prevail over the substance of actual practices. For example, if employees customarily are paid ―sick leave‖ benefits even though their absences from work are not actually the result of illness, those benefits should not be considered sick leave benefits for purposes of applying paragraphs 78 and 79, but rather should be recognized in accordance with paragraph 77. 27Accumulating means that earned but unused rights to compensated absences may be carried forward to one or more periods after the period in which earned, even though the amount that can be carried forward may be limited. 28Vesting rights are both vested rights and those rights that will eventually vest but have not yet vested (for example, because the employee has not yet completed a required length of service). Vested rights are those for which the employer has an obligation to pay even if an employee terminates; that is, they do not depend on an employee’s continued employment. 29 [Completely Superseded] 79. Compensated absences for accumulating nonvesting rights to receive sick leave benefits should not be accrued as earned; instead, they should be recognized as expenditures when the leave is taken. 80. Expenditure recognition for sabbatical leave depends on the purpose of the leave. If sabbatical leave is granted so the employee can perform research or public service or obtain additional training to enhance the reputation of or otherwise benefit the employer, the compensation is not attributable to services already rendered (paragraph 77a). Accordingly, an expenditure should not be recognized in advance of the leave. If, however, the leave is granted to provide compensated unrestricted time off for past service and the other conditions for recognition in paragraph 77 are met, an expenditure for sabbatical leave should be recognized when earned. Operating Leases 81. Expenditures result from operating leases. Cod. Sec. L20 provides guidance for distinguishing between capital and operating leases. If the operating lease agreement requires lease payments to be made on a level-payment basis, expenditures for operating leases should be recognized as they accrue over the lease term and should be measured in accordance with the terms of the lease agreement. If the lease agreement specifies scheduled rent increases, the lease transaction should be accounted for as provided in GASB Statement 13, and expenditures should be recognized using an accrual basis of accounting. Capital Expenditures 82. Capital expenditures result from acquiring capital assets through purchase, construction, or capital lease. Capital expenditures should be recognized when capital assets are acquired. Paragraphs 91 and 92 of this Statement provide guidance for expenditures for capital assets acquired through installment purchases. Cod. Sec. L20 provides guidance for expenditures for capital assets acquired through capital leases. Codification Section 1400, ―Fixed Assets,‖ provides guidance for reporting general fixed assets. Other Financing Uses 83. Claims incurred against financial resources from refunding general long-term capital debt and operating transfers-out should be reported as other financing uses. Issuance 30 [Completely Superseded] discounts on general long-term capital debt also should be reported as other financing uses. Recognition criteria for general long-term capital debt refundings are provided in paragraph 93. Cod. Secs. 1600.126 and 1800.106 and .107 provide guidance on reporting operating transfers. Recognition criteria for issuance discounts on general long-term capital debt are provided in paragraph 89. Residual Equity Transfers-Out 84. Claims incurred against financial resources from residual equity transfers-out should be reported as deductions from beginning fund balance, as required in Cod. Sec. 1800.106 and .107. Debt 85. Debt that provides financial resources to, and that is expected to be repaid from the financial resources of, governmental funds is either capital debt or operating debt. This Statement provides guidance for recognizing, measuring, and reporting in the operating statement the issuance of both capital and operating debt and the repayment of operating debt. It also provides guidance for balance sheet reporting of capital debt. Subsequent Statements will provide guidance for balance sheet reporting of operating debt and for recognizing, measuring, and reporting in the operating statement the repayment of capital debt. General Long-Term Capital Debt29 Definition 86. General long-term capital debt is those liabilities that are expected to be paid from the financial resources of governmental funds and that provide long-term financing (a) to acquire capital assets, including infrastructure, or (b) for certain nonrecurring projects or 29As explained in paragraph 230 of the Basis for Conclusions, certain reporting alternatives being considered in the Board’s capital reporting project could supersede this Statement’s requirements for reporting the issuance of general long-term capital debt, the treatment of the debt’s issuance discount and premium, and other capital-related activity. (Alternatives being considered are discussed in the GASB’s Discussion Memorandum, Capital Reporting, March 1, 1989.) The capital reporting standards will be available for simultaneous implementation with this Statement. 31 [Completely Superseded] activities that have long-term economic benefit.30 Capital debt includes debt issued by an entity for its own capital purposes as well as to provide resources for capital grants to other governments. General long-term capital debt generally is issued for more than one year. However, it also includes short-term (one year or less at issuance) debt issues, such as bond anticipation notes (BANs), provided that (a) some or all of that debt is expected to be replaced by other debt (such as bonds or other BANs) and (b) taken together, the debt issues are expected to be outstanding for more than one year. General long-term capital debt initially should be reported as a liability in the GLTDAG. 87. General long-term capital debt does not need to be issued before the capital assets are acquired; it may also include ―retroactive‖ borrowings to finance capital assets that originally were paid for from existing funds. However, subsequently issued debt should be reported as general long-term capital debt only if the entity intended to use long-term financing for those assets when they were acquired.31 Unless that intent can be demonstrated, ―retroactive‖ borrowings to finance capital assets previously acquired with existing funds should be reported as general long-term capital debt only if the debt is issued within one year after the capital asset acquisition. Amounts transferred from one fund to another for capital asset acquisition in anticipation of long-term financing should be reported as an interfund borrowing (for example, an interfund receivable in the general fund and an interfund payable in the capital projects fund), not as an interfund transfer. 88. General long-term capital debt also includes liabilities resulting from long-term vendor financing of capital asset acquisitions, such as capital leases and installment purchases. For example, the liability for a capital lease that is expected to be paid from the financial resources of a governmental fund should be reported as general long-term 30The Board currently is researching the types of nonrecurring projects and activities that have long-term economic benefit and for which debt should be treated as general long-term capital debt. An example of the type of project or activity being considered by the Board is toxic waste cleanup. The Board will issue guidance on the types of projects and activities that should be treated in this manner before the effective date of this Statement. 31To demonstrate previous intent to acquire capital assets through long-term financing, the government must show public recognition of that intent, for example, a bond referendum to obtain voter approval for the financing that precedes legislative approval for the capital project, or a published capital financing plan that shows long-term debt as the expected financing source for the acquisition. Professional judgment should be used when evaluating whether capital assets were acquired with the intent to use long-term financing. 32 [Completely Superseded] capital debt.32 Vendor financing of capital asset acquisitions payable one year or less after incurred (for example, accounts payable) should be reported as governmental fund liabilities. Debt Issuance 89. When general long-term capital debt is issued, an other financing source equal to the face amount of the debt should be reported in the governmental fund receiving the cash (normally a capital projects fund) in a caption such as ―Bonds issued‖ or ―Long-term notes issued.‖ Any issue costs paid out of debt proceeds, such as underwriter fees, should be reported as expenditures. The remaining difference between the face amount of the debt and the cash received from the sale of the debt should be reported in the operating statement as an issuance premium or discount, classified as an other financing source or use. Out-of-pocket issue costs, such as attorney and rating agency fees or bond insurance, should be reported as expenditures when the related liability is incurred. 90. The face amount of general long-term capital debt should be reported in the GLTDAG. Balancing accounts should show the amount available in debt service funds for debt principal payment and the amount that must be provided in future periods. Long-Term Vendor Financing 91. Long-term vendor financing of capital asset acquisitions includes capital leases and installment purchases. Recognition and measurement criteria for reporting capital leases are provided in Cod. Sec. L20. 92. An installment purchase of a capital asset should be reported as a capital expenditure and other financing source when the asset is acquired. If the capital asset is acquired in an arm’s-length, exchange transaction,33 there is a general presumption that the note’s stated interest rate is fair and adequate unless (a) no interest rate is stated, (b) the stated rate is 32However, if duplicate sources of financing are obtained to fund the same capital asset, only one of the sources should be reported as an inflow of financial resources in the operating statement and as a liability in the GLTDAG; the other should be reported as operating debt. For example, if a government issues bonds to provide resources to pay for a capital asset but then acquires that asset through long-term vendor financing, either the vendor financing or the bonds should be reported as operating debt, that is, not as an other financing source in the operating statement and a GLTDAG liability. If, however, the duplicate financing is used to acquire another capital asset, then the debt should be reported as an inflow of financial resources in the operating statement and as a liability in the GLTDAG. 33See footnote 21. 33 [Completely Superseded] unreasonable,34 or (c) the face amount of the note differs materially from the cash sales price of the capital asset or the market value of the note. If (a), (b), or (c) exists, the entity should report the capital expenditure at an amount equal to the fair value of the asset or the market value of the note, whichever is more clearly determinable.35 An other financing source equal to the face amount of the note should be reported in the governmental fund reporting the capital expenditure. The difference between the face amount of the note and the amount reported as a capital expenditure should be reported in the operating statement as an issuance premium or discount and classified as an other financing source or use. The note should be reported in the GLTDAG in accordance with paragraph 90. Debt Extinguishment and Defeasance, including Refunding 93. Debt may be extinguished before maturity, defeased legally or in substance, or refunded at maturity. Codification Section D20, ―Debt Extinguishments,‖ includes definitions and criteria for treating debt as defeased legally or in substance. If new debt is issued to provide resources to extinguish or defease old general long-term capital debt, including BANs, the face amount of the new debt should be reported in the operating statement of the appropriate governmental fund as an other financing source, in a caption such as ―Refunding bonds issued.‖ Payments to extinguish or defease debt that are made from resources provided by the new debt should be reported as an other financing use in the operating statement of the same fund reporting the issuance of the new debt, in a caption such as ―Payment to refunded bond escrow agent.‖ Payments that are made from other resources of the entity should be reported as debt service expenditures. The GLTDAG should be adjusted for the increase or decrease in the amount of general longterm capital debt. Operating Debt Definition 94. Operating debt is debt that provides financial resources to and is expected to be repaid from the financial resources of governmental funds and that is not related to the acquisition of capital assets, including infrastructure, or the financing of certain nonrecurring projects or activities that have long-term economic benefit. Operating debt 34See footnote 22. 35See footnote 23. 34 [Completely Superseded] includes revenue and tax anticipation notes and other short- and long-term debt issued to finance operations, for example, to pay claims and judgments. Debt Issuance 95. Except for issue costs as discussed in paragraph 96, the issuance of operating debt should not be reported as having an operating statement effect. That is, the face amount of operating debt should not be reported as an other financing source, and the issuance premium or discount should not be reported as an other financing source or use. 96. Any issue costs paid out of debt proceeds, such as underwriter fees, should be reported as expenditures. Out-of-pocket issue costs, such as attorney and rating agency fees or bond insurance, should be reported as expenditures when the related liability is incurred. Debt Service 97. Interest expenditures for operating debt should be recognized as the interest accrues, based on the debt’s effective interest rate. Any issuance premium or discount should be amortized to interest expenditure using the interest method. Payments of operating debt principal should not be reported in the operating statement; that is, debt service expenditures should not be reported for principal payments. Long-Term Vendor Financing 98. For long-term operating notes issued directly in an arm’s-length, exchange transaction,36 there is a general presumption that the note’s stated interest rate is fair and adequate unless (a) no interest rate is stated, (b) the stated rate is unreasonable,37 or (c) the face amount of the note differs materially from the cash sales price of the goods or services or the market value of the note. If (a), (b), or (c) exists, the entity should report a financial resource or an expenditure at the fair value of the goods or services or at the market value of the note, whichever is more clearly determinable.38 The issuance and 36See footnote 21. 37See footnote 22. 38In the absence of an established exchange price for the goods or services or evidence of the market value of the note, the present value of the note is determined by discounting all future payments using an imputed rate of interest. The imputed interest rate used should be one that approximates the rate that an independent borrower and lender would have negotiated in a similar transaction. 35 [Completely Superseded] payment of the note should be reported using the guidance provided for operating debt in paragraphs 95 through 97. Expendable Trust Funds 99. Expendable trust funds are trust funds used to account for and report financial resources that may be spent for designated purposes. The measurement focus for expendable trust fund operating statements should be the flow of financial resources. Therefore, the transactions and balances of expendable trust funds should be recognized and measured using the criteria established by this Statement. EFFECTIVE DATE AND TRANSITION 100. The requirements of this Statement are effective for financial statements for periods beginning after June 15, 1994. Early application is not permitted because of the need for simultaneous implementation with GASB pronouncements on financial reporting, capital reporting, pension accounting, risk financing and insurance, and the types of nonrecurring projects and activities that have long-term economic benefit and for which debt meets the definition of general long-term capital debt. Transition requirements for this Statement will be established by a future Statement on financial reporting. The provisions of this Statement need not be applied to immaterial items. This Statement was adopted by unanimous vote of the five members of the Governmental Accounting Standards Board: James F. Antonio, Chairman Martin Ives, Vice-Chairman Philip L. Defliese W. Gary Harmer Elmer B. Staats 36 [Completely Superseded] Appendix A BASIS FOR CONCLUSIONS CONTENTS Paragraph Numbers Introduction ....................................................................................................................... 101 History of the Project ................................................................................................ 102–116 Discussion Memorandum ...................................................................................... 102–105 Original ED ............................................................................................................ 106–108 Relationship to the Financial Reporting Project ............................................................ 109 Revised ED ............................................................................................................ 110–114 Current Issuance of This Statement ....................................................................... 115–116 Measurement Focus .................................................................................................. 117–126 Relationship to Other Financial Reporting Objectives .......................................... 123–126 Accrual Basis of Accounting .................................................................................... 127–128 Financial Resources .......................................................................................................... 129 Revenues ................................................................................................................... 130–199 Taxes ...................................................................................................................... 144–150 Taxpayer-Assessed Taxes Administered or Collected by Another Government ........... 151 Sales and Income Taxes ......................................................................................... 152–164 Sales Taxes.......................................................................................................... 154–155 Income Taxes ...................................................................................................... 156–164 Property Taxes ....................................................................................................... 165–174 Other Taxes .................................................................................................................... 175 Fines ....................................................................................................................... 176–177 Licenses and Permits .............................................................................................. 178–181 Donations ............................................................................................................... 182–186 Other Nonexchange Revenues Administered or Collected by Another Government ................................................................................................... 187 Charges for Services .............................................................................................. 188–189 Investment Gains, Losses, and Income .................................................................. 190–198 Operating Leases ............................................................................................................ 199 Other Financing Sources—Capital Leases and Sales of Capital Assets ................... 200–203 Operating Expenditures ............................................................................................ 204–223 Prepaid Items.......................................................................................................... 207–208 Supplies Inventories ............................................................................................... 209–212 Compensated Absences ......................................................................................... 213–222 Operating Leases ............................................................................................................ 223 37 [Completely Superseded] Paragraph Numbers Capital Expenditures ................................................................................................. 224–226 Installment Purchases ..................................................................................................... 225 Capital Leases ................................................................................................................ 226 Debt ........................................................................................................................... 227–245 Definition of General Long-Term Capital Debt..................................................... 231–237 Debt Issuance ......................................................................................................... 238–239 Debt Service ........................................................................................................... 240–243 Extinguishments and Defeasances ......................................................................... 244–245 Interfund Transfers ............................................................................................................ 246 Expendable Trust Funds ................................................................................................... 247 Agency Funds.................................................................................................................... 248 Effective Date and Transition ................................................................................... 249–253 Codification............................................................................................................... 254–255 Materiality ................................................................................................................. 256–259 38 [Completely Superseded] Appendix A BASIS FOR CONCLUSIONS Introduction 101. This appendix discusses factors considered significant by Board members in reaching the conclusions in this Statement. It includes discussion of the alternatives considered and the Board’s reasons for accepting some and rejecting others. Individual Board members gave greater weight to some factors than to others. History of the Project Discussion Memorandum 102. A Discussion Memorandum (DM), Measurement Focus and Basis of Accounting-Governmental Funds, was issued by the Board on February 15, 1985. The Board received 102 comment letters in response to the DM. Four public hearings on the DM were held in May 1985; thirty testifiers provided input to the Board. 103. The DM discussed the basic features, advantages, and disadvantages of five measurement focus and basis of accounting alternatives. These were flow of economic resources—accrual basis; flow of total financial resources—accrual basis; flow of current financial resources—modified accrual basis (1 year); flow of current financial resources— modified accrual basis (60 days); and flow of current financial resources—cash basis. The DM also discussed and asked for comments on specific revenue and expenditure recognition criteria. 104. Approximately 30 percent of the DM respondents supported a flow of economic resources alternative, approximately 30 percent preferred a total financial resources alternative, and approximately 38 percent supported a flow of current financial resources alternative. Nearly 80 percent of the respondents to the DM favored increased use of an accrual basis of accounting for governmental funds. 105. After discussing the issues raised in and comments received on the DM, the Board tentatively concluded that governmental funds should use a flow of total financial resources (now referred to as flow of financial resources) measurement focus with an accrual basis of accounting. Before issuing an Exposure Draft (ED), the Board solicited 39 [Completely Superseded] further input on its tentative conclusions; it conducted a field test of the effect of those conclusions on the financial position and results of operations of the governmental funds of twenty-seven state and local governmental entities, and held workshops on the project in conjunction with meetings of its national constituent organizations. Original ED 106. On December 15, 1987, the Board issued an ED, Measurement Focus and Basis of Accounting--Governmental Funds. The GASB received 192 responses to that ED. During the spring of 1988, the Board heard forty-four presentations on the ED at five public hearings and held meetings about it with various constituent organizations. 107. The 1987 ED proposed that governmental funds use a flow of financial resources measurement focus for both the operating statement and the balance sheet. About 95 percent of the respondents that took a position on the measurement focus concept wanted or would accept some measure of financial resource flows. However, only 45 percent supported the measurement focus substantially as proposed. About 35 percent were opposed to using an accrual basis of accounting, especially because of the proposed potential effect on fund balance. Another 15 percent supported the use of an accrual basis of accounting on the operating statement but also wanted to retain the ―traditional‖ meaning of fund balance. The remaining 5 percent supported the flow of economic resources measurement focus, essentially full commercial accounting with depreciation of capital assets. 108. The Board considered those responses and concluded that the best approach for considering whether operating statement accruals should have an effect on fund balance is through financial reporting display. That is, once the transactions have been reported in the governmental fund operating statements, the liabilities could be reported so that they do not affect the determination of amounts ―available‖ for appropriation. The Board considered different ways of making this approach work, noting, in effect, that it potentially involves reconciling between an accrual-basis operating statement and a ―modified accrual‖ measurement of fund balance. This reconciliation could be achieved in one of several ways, for example, by using a separate statement of changes in fund balance. This approach also involves making decisions about how the long-term operating liabilities should be displayed, that is, whether they should be displayed in the fund but separated from the current liabilities and ―traditional‖ fund balance, or whether they should be displayed outside the fund in an account group. 40 [Completely Superseded] Relationship to the Financial Reporting Project 109. After discussing these issues and several illustrations with an ad hoc advisory committee composed of state and local governmental preparers and auditors and governmental accounting academics, the Board concluded that the issues would best be resolved in its financial reporting project. The financial reporting project was placed on the Board’s agenda in 1984. Completed portions of the project include GASB Concepts Statement No. 1, Objectives of Financial Reporting. In March 1990, the Board issued an ED, The Financial Reporting Entity, which solicits comments on defining the governmental reporting entity, the second phase of the project. Once work on this portion of the project is completed, the Board will begin work on determining what the governmental financial reporting model should look like. This third phase of the financial reporting project will consider the issues about the balance sheet effect of the new operating statement measurement focus, including which long-term operating liabilities should affect fund balance, how long-term operating liabilities should be displayed, and, if all operating liabilities do not affect fund balance, how to display the reconciliation between the accrual-basis operating statement and fund balance. In this process, the Board will consider the concerns that the measurement and display of fund balance should be reasonably similar to how that balance traditionally has been understood. Revised ED 110. Because of the decision to resolve the balance sheet issues in the financial reporting project as well as changes made in the 1987 ED’s proposals for tax revenue recognition, the Board issued a revised ED, Measurement Focus and Basis of Accounting— Governmental Fund Operating Statements, on August 14, 1989. The 1989 ED proposed to establish the flow of financial resources measurement focus only for governmental fund operating statements with simultaneous implementation with standards for the governmental fund balance sheets as resolved in the financial reporting project. 111. The GASB received ninety-four responses to the 1989 ED, primarily from financial statement preparers and auditors for general purpose state and local governmental entities and their representational organizations. No public hearings were held on the ED. Of the ED respondents that took a position on the measurement focus concept, approximately 87 percent want or would accept some measure of financial resource flows. Sixty-six percent support the flow of financial resources measurement focus, and the other 21 percent favor a flow of current financial resources measurement focus. The remaining 13 percent 41 [Completely Superseded] support the flow of economic resources measurement focus. Reasons given for preferring a particular measurement focus were essentially the same in the response to both the original and the revised ED. 112. Respondents that support the flow of financial resources measurement focus believe it is a logical outcome of the Board’s financial reporting objectives (especially the measure of interperiod equity), is a more accurate measure of operating results, and is responsive to important environmental factors, such as budgeting and fund accounting. They also believe it appropriately distinguishes between debt that provides future benefit and debt that does not, and that it will provide useful information to financial statement users. 113. Respondents that prefer the flow of economic resources measurement focus believe the flow of financial resources measurement focus does not fully meet the Board’s financial reporting objectives and does not fully report financial position and results of operations. They also believe the flow of financial resources measurement focus places too much emphasis on budgeting and fund accounting, which, although important environmental factors, should not influence generally accepted accounting principles (GAAP). 114. Respondents that prefer the flow of current financial resources measurement focus believe the nature of government, especially its budgetary processes and the relationship between available resources and current expenditures, requires a primary accountability focus on the short term. They believe it is in the governmental funds that this short-term perspective should be provided. They believe GAAP needs to be similar to budgetary practices. They do not believe the change in measurement focus will be cost beneficial or practical; they believe the change will confuse users of financial statements. These respondents are especially concerned with the effect that the operating statement accruals will have on the fund balances of governmental funds. Current Issuance of This Statement 115. About 75 percent of the respondents to the 1989 ED addressed the Board’s decision to defer the balance sheet issues to the financial reporting project. Of those, about 30 percent agree with the approach as logical, see benefit to advancing the measurement focus and basis of accounting (MFBA) project, and recommend issuing the MFBA Statement at this time. Another 40 percent, however, disagree with the Board’s issuing MFBA as a separate Statement without making at least some progress on the financial 42 [Completely Superseded] reporting project. They believe the Board’s approach results in piecemeal standards setting because the potential effect of the operating statement accruals on the balance sheet cannot be fully assessed and because issuing the MFBA Statement now will unduly inhibit both the Board’s thinking and the due process of the other project. Further, these respondents believe that if the MFBA Statement is issued now, it will probably require revision before implementation. Although concerned about the effect of segmenting the project, the other 30 percent do not disagree with the current issuance of this Statement. 116. Despite these concerns, the Board concluded that it is appropriate to issue this Statement at this time. The Board believes its extensive due process has resulted in the development of constituent consensus concerning the fundamental issue: the use of the flow of financial resources measurement focus with an accrual basis of accounting. Further, the Board believes the operating statement standards established by this Statement are consistent with GASB Concepts Statement No. 1, Objectives of Financial Reporting (Cod. Sec. 100). Most importantly, this Statement provides a necessary framework and basic principles for advancing other Board projects. The Board also believes that issuing this Statement currently will permit more time for the planning and systems changes that will be needed to implement the flow of financial resources measurement focus as well as to educate financial statement users of the need for and effects of the new reporting standards. Measurement Focus 117. Because of the extensive introductory section, which presents the rationale for the Board’s decision to require the flow of financial resources measurement focus, detailed discussion in the Basis for Conclusions on measurement focus would be redundant. Therefore, only a few comments are made here. 118. As discussed in the Introduction, the Board believes the flow of financial resources measurement focus for governmental fund operating statements is responsive to the governmental environment and the needs of users of governmental financial reports. This measurement focus is based on the concept of accountability and considers the performance goals and measures of governmental-type activities, the intent and effect of budgets and other financial controls, and the use of fund accounting to achieve and demonstrate legal compliance and to enhance financial administration. 43 [Completely Superseded] 119. Most importantly, the Board believes this measurement focus contributes information necessary to report a measure of interperiod equity. The concept of measuring interperiod equity, established as a financial reporting objective in Cod. Sec. 100, is well suited to governmental financial reporting because it is based on the intent of balancedbudget laws. 120. As noted in the Introduction, the Board is aware that interperiod equity cannot be measured completely in any individual governmental fund; however, the Board believes measurements made in each governmental fund should contribute to measuring interperiod equity as much as possible. To achieve this, the operations of those funds should be measured using an accrual basis of accounting. An accrual basis of accounting in governmental financial reporting generally requires recognizing the effects of transactions and events on financial resources based on when they take place. 121. Display is as important as recognition and measurement in reporting results of operations and financial position. That is, accomplishing a particular measurement focus involves resolving issues about not only what to measure and when to recognize it, but also how to clearly and logically communicate it to the financial statement user. Toward that goal, the Board is beginning research on the portion of its financial reporting project that will resolve how governmental financial statements should look, including issues about fund structure, operating statement formats, the display of liabilities arising from both the accrual of expenditures and the issuance of operating debt, and the measure and display of fund balance. 122. In other projects, the Board intends to consider whether systematic and rational budgetary funding methods designed to achieve interperiod equity might be appropriate for expenditure recognition and measurement. In its deliberations, the Board will consider the governmental operating environment. Governments tend not to cease operations, and governmental ―ownership‖ is not ―traded‖ or ―purchased‖ like shares of stock in a business enterprise. Their major revenues are taxes, and stable taxes provide a desirable economic and social climate. In this environment, leveling certain types of expenditures by using funding methods designed to achieve interperiod equity may be appropriate for financial reporting purposes. However, the Board’s consideration of this approach for expenditures associated with long-term liabilities will be limited to certain specific situations, for example, complex transactions involving uncertainties, such as pension benefits. The Board also wants to stress that this is an approach to be considered in setting 44 [Completely Superseded] accounting standards after appropriate due process and should not be used in the absence of a specific GASB pronouncement. Further, the effect this approach might have on recognition of liabilities is unclear. Should a liability be recognized based on transactions or events taking place, and, if so, how should that balance sheet measure articulate with the measure of operations based on systematic and rational funding methods? Various alternatives for this situation exist. The Board is aware that these concepts and alternatives need to be carefully evaluated before standards based on them are adopted. Relationship to Other Financial Reporting Objectives 123. In addition to helping meet the objective of measuring interperiod equity, the flow of financial resources measurement focus meets or helps meet many of the other financial reporting objectives set forth in Cod. Sec. 100. 124. For example, Cod. Sec. 100.178a states that financial reporting should assist users in evaluating the operating results of the governmental entity for the year by providing information about sources and uses of financial resources. The flow of financial resources measurement focus is designed primarily to provide this information. This measurement focus will also assist in providing information about how an entity finances its activities (Cod. Sec. 100.178b). 125. The flow of financial resources measurement focus contributes to meeting several other financial reporting objectives because it uses an accrual basis of accounting. These objectives include providing information to assist users in assessing the service efforts, costs, and accomplishments of the entity (Cod. Sec. 100.177c) and providing information necessary to determine whether the entity’s financial position has improved or deteriorated as a result of the year’s operations (Cod. Sec. 100.178c). 126. Because the flow of financial resources measurement focus has been developed within the context of fund accounting, it also contributes to meeting two of the financial reporting objectives that can be accomplished in part through the use of fund accounting and financial reporting, that is, demonstrating compliance with finance-related legal or contractual requirements (Cod. Sec. 100.177b) and disclosing legal or contractual restrictions on resources and risks of potential loss of resources (Cod. Sec. 100.179c). 45 [Completely Superseded] Accrual Basis of Accounting 127. This Statement requires the use of an accrual basis of accounting to recognize the effects of transactions or events that affect financial resources in the period they take place. This is a major change from previous standards because it requires recognition of the financial effects of transactions or events even though the cash effect may not take place until well into the future. Although these transactions and events may not result in a current-period inflow or outflow of cash, recognition of their effect on financial resources in the period they take place is a necessary part of accomplishing a measure of interperiod equity. Reporting them helps users of financial statements determine whether current-year revenues are sufficient to pay for current-year services. 128. The Board believes that using an accrual basis of accounting will also improve comparability in governmental financial reporting. It believes two governments should not report different operating results simply because of differences in the timing of cash receipts and disbursements. Financial Resources 129. This Statement’s definition of financial resources is designed primarily to include cash and other assets that, in the normal course of operations, will become cash. However, it also includes other assets acquired with cash that will be used in providing services in the normal course of operations (such as supplies inventories) or that will be used to satisfy a particular future liability as it arises (such as prepaid items). The definition of financial resources also includes equity securities of another entity. These assets are like other investments in that they will become cash but, unlike debt securities, they are not claims to cash. As a result, they require separate identification in the definition of financial resources. Revenues 130. The Board believes that to properly measure interperiod equity, revenue should be recognized when the underlying event takes place and the government has a claim to the asset, regardless of when cash is received. This accrual-basis concept is similar to the one used for recognizing operating expenditures. To apply an accrual basis of accounting in a governmental environment, however, the Board considered the unique nature of certain transactions, particularly tax revenues, and how reliable measurements can be made. 46 [Completely Superseded] 131. Most revenues reported in governmental funds are not from exchange or ―earnings‖ transactions; they are from taxes and other nonexchange transactions or events. Taxes and other nonexchange transactions involve a transfer of something of value between two or more entities, but there is no direct relationship between the value received and the value given. With taxes, for example, a government receives amounts from taxpayers and uses them to provide a variety of services. The taxpayers do not necessarily receive value in direct proportion to the taxes they pay, but they receive indirect value in having governmental programs and services available in their community. Private-sector accounting standards might refer to these transactions as nonreciprocal transfers, which FASB Concepts Statement No. 6, Elements of Financial Statements, defines as transactions ―in which an entity incurs a liability or transfers an asset to another entity (or receives an asset or cancellation of a liability) without directly receiving (or giving) value in exchange‖ (paragraph 137). This Board believes the term nonexchange more accurately describes the indirect receiving and giving of value in the governmental environment. 132. As discussed in the Standards section of this Statement, taxes and other nonexchange revenues can be tied to particular transactions or events or to transactions or events that take place over time. However, the occurrence of an underlying event is just one of the factors that need to be considered to recognize tax and other nonexchange revenues. 133. The confiscatory nature of taxation is another important factor in recognizing tax revenue. In a sense, the underlying event (such as the earning of income by a taxpayer) is merely the basis on which tax is calculated. In a democratic society, taxes can be calculated on any basis approved by the citizens’ representatives. To assert its claim to taxes, governments must demand or exact them from the taxpayers. The Board believes it is with the government’s demand that taxpayers feel the burden of taxation and, therefore, when, in an interperiod equity sense, they have provided resources. Establishing a specific due date for payment constitutes the best evidence of an effective assertion of the demand for taxes. The Board concluded that a logical accrual-basis revenue recognition theory applicable to all taxes should consider both the underlying event and the demand. Both must take place before revenue can be recognized. 134. Finally, to make revenue accruals, governments must be able to reliably measure the amounts. This Statement requires tax revenue recognition for required tax payments that are not received when due (delinquent taxes). For taxpayer-assessed taxes, this delinquency accrual involves only those amounts that taxpayers are late in reporting or 47 [Completely Superseded] remitting; that is, it does not include unreported or underreported taxes arising from taxpayer noncompliance with reporting or other tax laws and that the government expects to discover through taxpayer audit. The Board believes that the delinquency accrual can be reliably measured because it is based primarily on taxes reported or received after the taxes are due. This is because most taxpayer-assessed taxes based on taxable periods or transactions during a government’s fiscal year are due during the year or shortly thereafter. Therefore, material delinquencies are reported or remitted to the government during the time it is preparing its annual financial statements. To the extent that the government has a history of receiving delinquent taxes after financial statements are prepared, it should accrue for those amounts it expects to ―trickle in.‖ The Board expects that in most cases this will not be a significant amount because the longer a required tax payment is delinquent, the more likely it is the taxpayer intends not to comply with the tax laws (and thus those taxes should not be considered in the delinquency accrual). 135. To recognize revenue from nonexchange transactions other than taxation, this Statement requires both an underlying event to take place and an enforceable legal claim to exist. This enforceable legal claim is necessary to provide evidence that the government has obtained a right to the asset. 136. Governmental funds sometimes report revenue arising from exchange transactions, although this usually is not a material revenue source for these funds. Exchange transactions involve a transfer of value between two or more entities in which each participant both receives and gives value. In contrast to nonexchange transactions, the relationship between the giving and receiving is direct, for example, the payment of interest for the use of money. In these transactions, a government acts as a private-sector business enterprise would act, exchanging value for equal value in an arm’s-length transaction. The Board sees no reason to recognize revenue from exchange transactions differently in governmental funds than in proprietary funds if both funds use an accrual basis of accounting. Therefore, the requirements in this Statement for recognition of governmental fund exchange transaction revenues are the same as those currently required for proprietary funds. In an exchange transaction, revenue should be recognized when earned, that is, when the entity has done what it must do to complete its side of the transaction. 137. The Board is aware of the difficulty some entities may face in applying the revenue recognition criteria required by this Statement when other entities administer or collect 48 [Completely Superseded] their taxpayer-assessed taxes and other nonexchange revenues. As with entities collecting their own revenues, the Board believes that the advantages of accrual outweigh the costs of making the measurements. The Board encourages intergovernmental cooperation in these situations so that adequate systems can be developed to provide accrual information in a cost-effective and timely manner. However, the Board realizes this may not always be possible. Therefore, this Statement provides for alternative recognition of taxpayerassessed taxes and other nonexchange revenues when the revenues are administered or collected by another government and the reporting government cannot obtain the accrual information it needs. The Board believes that the alternative recognition criteria will allow a cost-beneficial, objective, consistent, and verifiable measure of the reporting government’s taxpayer-assessed taxes and other nonexchange revenues. This Statement does not permit alternative recognition when revenues from government-assessed taxes (such as property taxes) and from exchange transactions are administered or collected by another government. This is because the Board does not believe the same type of measurement problems exist for those revenues. 138. This Statement requires changes in revenue recognition by state and local governments. The Board is aware that some believe government officials and other users of governmental financial statements may think these newly recognized amounts are available for spending even though they have not been collected. The Board notes, however, that the effect of the change in tax revenue recognition—the largest single source of governmental fund resources—often will not be significant because of the demand criterion. Further, the Board believes the additional information provided by revenue accrual outweighs the loss of information implicit in previous revenue recognition criteria; in time, government officials and others will understand the change in revenue recognition and will benefit from the additional financial information provided by that accrual. 139. This Statement’s criteria for recognizing taxes and other nonexchange revenues differ in several respects from the proposals in the EDs. The Board had two objectives for those proposals. The first objective was to propose the use of an accrual basis of accounting, and the second was to develop specific criteria for its application. 140. Some respondents to the EDs opposed the concept of revenue accrual beyond what is ―measurable and available.‖ Some opposed it because they believe accrual is not consistent with fiscal accountability or balanced budget concepts. They believe it would 49 [Completely Superseded] cause cash flow problems because users would think the resources are available for spending. Others opposed or were concerned about revenue accrual because of practical problems in its application, particularly based on the recognition criteria proposed in the 1987 ED. They cited cost-benefit concerns, a lack of adequate systems, and problems in gathering data. 141. Many respondents to the EDs supported the concept of revenue accrual. However, some had practical difficulties with applying an accrual basis of accounting, and others believed that some of the proposals did not result in accrual accounting. The latter group was especially concerned by the addition of the demand criterion in the 1989 ED, maintaining that it severely undercut the concept of ―full accrual.‖ (This ―full accrual‖ concept would involve recognition based only on the underlying taxable event, with measurements based on estimation.) However, the demand criterion was added after considering the comments of a few respondents to the 1987 ED that supported accrual accounting but thought that the nature of taxation requires such a criterion. The demand criterion was supported by many respondents to the 1989 ED. This support came in part from those that believed the 1987 ED proposals would result in unreliable measurements and revenue amounts that would be more subjective and susceptible to manipulation. The 1987 ED had proposed tax revenue recognition that was closer to ―full accrual.‖ 142. Some respondents to the 1987 ED were especially concerned about applying an accrual basis of accounting to revenues administered or collected by another government. They noted that because the reporting governments often would be unable to obtain the accrual information from the administering and collecting governments, they would have to report on a non-GAAP basis. The alternative revenue recognition criteria proposed in the 1989 ED for these situations were well received by the respondents. 143. The Board has tried to balance the positions of all respondents to develop revenue recognition criteria that are cost beneficial and practical as well as a theoretically sound application of an accrual basis of accounting. The Board believes that both the underlying event and the demand criteria are necessary to produce reliable accrual-basis measurements for nonexchange confiscatory transactions. Taxes 144. The Board believes it is particularly desirable to develop a single set of criteria within an accrual context that can be applied to all tax revenues. In developing these 50 [Completely Superseded] criteria, the Board took into consideration the comments from the ED respondents on proposals for income, sales, and property tax recognition and measurement. This Statement requires tax revenue to be recognized if (a) the underlying transaction or event has taken place and (b) the government has demanded the taxes from the taxpayer by establishing a due date. These two conditions (taken together) are evidence that the government has obtained financial resources, regardless of when cash is received. 145. This Statement requires that, for the amounts to be recognized as revenue for a particular period, the demand (due date) for taxes be made on or before the end of the period. However, it also requires revenue to be recognized for taxpayer-assessed taxes that are based on underlying transactions or events taking place during the period if the due date for those taxes is within two months after the end of the period. This is because governments often provide ―administrative lead time‖ to allow taxpayers to calculate and report the taxes they owe as of a particular prior date. For example, a government may allow merchants until July 15 to close their books for the quarter ending June 30 and to calculate and report the sales taxes owing for that period. Allowing this ―administrative lead time‖ is necessary and appropriate, and the taxes for sales in the quarter ending June 30 should be recognized by the government as revenue for the period then ended. Therefore, for taxpayer-assessed taxes, any due date within two months after the end of the period should be considered to be the result of ―administrative lead time‖ and, for purposes of revenue recognition, those taxes should be considered as ―demanded‖ or ―due‖ as of the end of the period. 146. The 1989 ED had proposed a one-month administrative lead time period. Some respondents to the ED suggested that one month would be too restrictive in application to certain taxes and recommended that it be extended. The Board surveyed state governments for the collection cycles of their various taxpayer-assessed taxes and found that taxes for taxable periods that end or transactions that take place during a state’s fiscal year usually are due within one month thereafter. However, it found some exceptions for sales and excise taxes as well as for some estimated and final settlement payments on corporate income taxes. The Board agreed to extend the administrative lead time to two months to permit more accrual without compromising the concept of demand. Also, one respondent to the 1989 ED discussed a situation of a tax relating to the current period that normally is due the last day of the administrative lead time. But, because that date falls on a weekend in a particular year, is due the following day and, thus, after the administrative 51 [Completely Superseded] lead time period. The Board does not intend delayed recognition if the tax normally is due during the two months following the government’s fiscal year-end. 147. The 1989 ED had proposed a third criterion for tax revenue recognition-acknowledgment or affirmation of the demand before financial statements are issued. Acknowledgment was defined as taxpayer reporting or payment of the taxes. Affirmation was defined as government billing for the taxes. The acknowledgment and affirmation criterion was proposed to make the transactions measurable. Some respondents opposed the criterion, saying it was impractical, inappropriate in an accrual basis of accounting, arbitrary, and variable (given that different jurisdictions could use different lengths of time for cut-off for acknowledgment and affirmation). These respondents suggested the use of historical estimates to measure delinquent taxes. Because the Board’s concern about reliable measurements pertains to amounts to be discovered through taxpayer audits and to future final settlements, not to delinquent taxes, it agreed to eliminate the proposed acknowledgment and affirmation criterion. As discussed in paragraph 134, the Board believes that the additional accrual of delinquent taxpayer-assessed taxes based on historical estimates will not be significant and can be reliably made. 148. This Statement does not allow accrual of taxpayer-assessed taxes that are unreported because of taxpayer noncompliance with reporting or other tax laws, even though there has been an underlying event. These are taxes that the government may discover through audit of the taxpayer. The Board believes that, for GAAP financial reporting purposes, any attempt to measure the amounts would be highly unreliable, subjective, and subject to manipulation. Instead, this Statement requires recognition of revenue in the current period for taxes discovered through audit if they are assessed against the taxpayer before financial statements are issued. 149. This Statement also does not allow accrual of taxpayer-assessed taxes that are due to be paid more than two months after the government’s fiscal year-end, even though there has been an underlying event during the fiscal year. This involves, for example, final settlements on income taxes for a taxable period that is partially or totally within a government’s fiscal year and that are due more than two months after the government’s fiscal year-end. These are taxes for which the government has not made a current demand. Because the tax revenue recognition criteria consider the confiscatory nature of taxation, a government should not report revenue if it has not demanded payment. Instead, the taxes should be revenue in the period of the demand. 52 [Completely Superseded] 150. One respondent to the 1987 ED asked whether the proposed sales and income tax revenue recognition criteria were intended to apply to shared revenues that are funded by those taxes. They are not. Revenue recognition requirements for shared revenues will be established in the Board’s project on intergovernmental transfers and nonexchange program expenditures. Taxpayer-Assessed Taxes Administered or Collected by Another Government 151. This Statement allows alternative revenue recognition for taxpayer-assessed taxes administered or collected by another government if the taxing government cannot obtain the information it needs to apply the accrual recognition criteria. The alternative allows the taxing government to get as close as possible to the accrual if the amounts are measurable and verifiable. The alternative starts with a minimum accrual of cash received within one month after the end of the period because the systems run by most governments to collect and distribute taxes of other governments include at least a one-month lag between receipt of the taxes from the taxpayers and distribution of the amounts to the taxing governments. Therefore, the Board believes that tax amounts distributed to the taxing government in the month following the end of its reporting period pertain to underlying events that took place and for which amounts were demanded on or before the end of the period. Sales and Income Taxes 152. In this Statement, sales and income tax revenue includes amounts that are received when due as well as those that are delinquent. The Board believes this approach is consistent with accrual-basis tax revenue recognition because it recognizes the effects of the tax in the period the taxable events take place provided the demand for taxes is made, regardless of when the amounts are collected. These criteria differ from cash-basis recognition in that recognition is not delayed if cash is not received. 153. The major difference between the sales and income tax revenue recognition approach in the 1989 ED and the approach in this Statement is in the measurability and tax refund areas. The 1989 ED proposed to resolve the measurability issue by using an acknowledgment and affirmation criterion; it also required that a provision be made for all tax refunds regardless of their cause. A relatively large number of respondents expressed concern that this approach was overly conservative and somewhat inconsistent. After 53 [Completely Superseded] considering those comments, the Board developed the approach discussed in the following paragraphs. The Board believes the following approach also addresses the measurability concerns raised by respondents to the 1987 ED. Sales Taxes 154. The Board believes this Statement’s sales tax revenue recognition criteria will produce accrual-basis results that are objective and reliable. The combined underlying event and demand criteria will result in revenue recognition similar to what would be recognized using only one of those criteria. This is because governments typically demand payment of actual sales tax liabilities shortly after the sales take place. At the same time, the measurement is objective and reliable because it is based on subsequent receipts and reports supplemented by history-based estimates of other delinquent taxes that will ―trickle in‖ after financial statements are prepared. 155. Given the nature of sales tax administration, the Board does not believe that significant sales tax refund liabilities exist. If they do, however, this Statement requires revenue to be reduced and a liability to be reported for them. If a government needs to measure sales tax refunds, the guidance in the income tax standards for the current final settlement refund liabilities should be applied to measure and report sales tax refund liabilities consisting of (a) refund claims paid plus (b) refund claims made but unpaid plus (c) refund claims unmade that are expected to ―trickle in‖ after financial statements are prepared. Income Taxes 156. The Board believes this Statement’s income tax revenue recognition criteria will produce results that are objective and reliable. The Board is also aware that this Statement will produce an income tax revenue amount that is different from the amount that would be recognized if recognition were based on taxpayer earnings only. This is because governments do not demand payment of actual income tax liabilities shortly after taxable income is earned. The Board does not believe it is appropriate for governments to report revenue based on estimates of what taxpayers may have earned. Rather, governments should recognize tax revenue based on the tax it calls on its citizens to pay, provided the taxpayers also have earned the income. 54 [Completely Superseded] 157. In developing income tax revenue recognition criteria, the Board observed the manner in which governments administer individual income taxes. Most governments that have income taxes are states, and most states have a June 30 fiscal year-end. Most individual income taxpayers calculate their annual tax liabilities based on a calendar year. Individuals make progress payments on their annual tax liabilities through withholdings and estimated payments and make a final settlement of their annual liability. That liability generally is due to be paid on or before April 15 of the year following the calendar tax year. The taxpayer receives a refund if the final settlement report shows that progress payments exceeded the actual tax liability for the calendar year. On the other hand, the taxpayer is responsible for an additional payment if progress payments fail to satisfy that liability. 158. Progress payments on the taxpayers’ annual tax liabilities are paid in part through employer withholding on employee wages. Withholdings are usually payable from employers to the government based on months or quarters of wages. Employers are often required to remit those withholdings during the month following the wage period. Governments know which employers regularly submit withholdings from employee wages and are able to identify employers that are delinquent in remitting withholding payments. However, at the time of delinquency, the actual delinquent amount is not known. Subsequent receipts and reports would indicate the amount of the delinquency, if any. This Statement requires the accrual for income taxes from withholdings to be calculated based on those subsequent receipts and reports, supplemented by a history-based estimate of other delinquent withholdings that are expected to ―trickle in‖ after financial statements are prepared. The Board does not expect that the amount of withholdings delinquent for more than a few months would be significant. 159. Sometimes, taxpayers also make estimated payments because wage withholding is inadequate to satisfy their annual tax liability, for example, because they have significant amounts of income from sources that do not withhold taxes. Taxpayers are required to make estimated payments of individual income taxes based on calendar quarters, and those amounts usually are due to be paid during the quarter or immediately thereafter. However, based on individual circumstances, taxpayers may not be required to submit an estimated payment for each calendar quarter. Therefore, taxpayers that are ―delinquent‖ in submitting estimated payments are not identifiable. However, the Board does not believe that taxpayers submit quarterly payments more than a few months after they are due. Instead, the Board believes that taxpayers that fail to make timely estimated payments 55 [Completely Superseded] would simply adjust the amount of the next quarterly payment. Therefore, the Board believes that an accrual of delinquent income tax revenue from estimated payments generally should be based on delinquent estimated payments received up until the next quarterly payment date. 160. The final due date for final settlements of calendar-year individual income tax liabilities generally is April 15. Therefore, for fiscal-year governments with calendar-year taxpayers, final settlement reports for the calendar tax year that ends during the government’s fiscal year are due during the government’s fiscal year or within two months thereafter. This Statement requires these current final settlements to be accounted for like the other income tax payments: The effect on revenue should be calculated based on the additional payments and refunds that are subsequently received, paid, or reported, supplemented by a history-based estimate of other delinquent settlement reports that will ―trickle in‖ after financial statements are prepared. For the government with a June 30 year-end that uses actual information received through September 30 as the basis for its accrual, there would be five and one-half months after the final settlement date to obtain actual information on delinquencies. The Board does not expect that the amount of current final settlements that continue to be delinquent when financial statements are prepared would be significant. 161. For the June 30 government, calendar-year taxpayers are halfway through another tax year. These taxpayers have been making progress payments on their tax liabilities as required by the government’s withholding and estimated payment requirements. On the April 15 following the government’s year-end, nine and one-half months hence, these taxpayers will make a final settlement of that calendar year’s annual tax liability. This Statement does not permit recognition in the current period for these future final settlements. This is partly because these future final settlements are affected by events that take place after the government’s fiscal year-end, for example, taxable income earned and progress payments made by the taxpayer after July 1. Further, because of the potential effect of future events and the long period of time until that next settlement, the Board does not believe that the amount of the future final settlement is reliably measurable. Also, amounts that will be received in future final settlements should not be recognized as having an effect on revenue as of the government’s June 30 fiscal year-end because the payments have not yet been demanded. Such amounts may be received in final settlement, for example, because a government permits a taxpayer to satisfy only 90 percent of his or her annual tax liability through withholdings and estimated payments and not be 56 [Completely Superseded] penalized. Therefore, this Statement does not permit the effect of future final settlements of income taxes to be recognized in the current period. 162. The 1989 ED had proposed to reduce revenue for the effect of future final settlement refund liabilities based on the history of refunds in past periods. However, that proposal did not permit revenue recognition for the additional payments for the same final settlement. The Board considered this treatment to be necessary because of the interaction of the underlying event and demand criteria. Many respondents to the ED questioned this treatment as inconsistent. The Board agrees, and this Statement requires all of the effects of future final settlements, refunds and additional payments alike, to be treated as futureperiod transactions. The Board is aware that some may disagree with not reporting a liability for refunds that will be paid in the future. This disagreement may be based on the fact that the future refunds relate, in part, to the calendar tax year that is in progress and for which progress payments have been received through withholding and estimated payments. However, as with the additional payments in future final settlement, the Board believes that the refunds are affected by future events and are not reliably measurable. 163. The Board discussed at length the issue of future final settlements of income taxes. It observed that amounts are refunded for various reasons. Sometimes, taxpayer actions or inactions provoke refunds. Some taxpayers claim too few tax withholding exemptions as an ―enforced‖ savings plan. Others claim the same number of exemptions for state purposes that they do for federal income tax purposes, even though the tax structures differ. Sometimes, government actions provoke refunds. Some tax withholding tables may have a small ―refund bias‖ because governments would rather pay small refunds than attempt to collect small amounts due and because taxpayers prefer to receive refunds rather than to pay more taxes at final settlement. The ―bracketing‖ of tax withholding tables can also provoke refunds. For example, if taxable income would result in a tax liability of between $31 and $35, the withholding table would cause a withholding of $35 for anyone in that range. Refunds may also happen because the government has structured a significant overdemand in its withholding and estimated payment requirements. This may be done, for example, to borrow short-term funds ―interest free.‖ 164. The Board believes that governments should reduce income tax revenue and report liabilities to the extent that government actions cause taxpayers to remit amounts that exceed their actual tax liabilities. The Board believes that governments should be able to reliably measure the effect their actions have in creating refunds. (The Board believes that 57 [Completely Superseded] a government’s history of paying refunds may indicate that its withholding and estimated payments systems include a structural overdemand.) The Board further believes that it would be inappropriate for a government to report that it has obtained tax revenue when, instead, it has borrowed short-term funds interest free from its citizens. The Board does not believe, however, that governments should report additional revenue for a similarly structured underdemand for progress payments on income taxes. This is because of the demand criterion—governments should not report that they have obtained revenue from taxation if they have not demanded the amounts by establishing a current due date for their payment. Property Taxes 165. The Board’s decision to include a demand criterion as part of its overall concept of tax revenue accrual necessarily affects property tax revenue recognition. The Board believes that the property tax revenue recognition required by this Statement is consistent with accrual-basis recognition because it recognizes the effects of the tax in the budgetary period for which it is levied, provided the demand for taxes is made, regardless of when the amounts are collected. Previous property tax revenue recognition criteria required revenue to be recognized in the period for which the taxes were levied, provided they were due during the period and collected within sixty days thereafter. Therefore, this Statement changes revenue recognition by adding an accrual for all delinquent property taxes that are expected to be collected. 166. The property tax proposal in the 1987 ED did not include the demand criterion. Many respondents disagreed with that proposal and wanted to add an availability, duedate, or demand criterion. The 1989 ED proposal, which included the demand criterion, received a more favorable response. 167. The Board believes that, unlike sales or income taxes, the event underlying claims to property taxes is not an economic event. Instead, it believes property taxes are usually the direct result of the budgetary process. In many cases, a government determines its spending requirements, estimates the revenue expected from other than property taxes, and then, to balance its budget, sets a property tax levy to provide funding not covered by other revenues. As a result, developing a budget is a necessary first step in determining the total property tax revenue required before property taxes can be levied and collected. In other cases, there are statutory limitations on a property tax levy, and the government’s levy is at the maximum. In these cases, the government does not use the budgetary process to 58 [Completely Superseded] determine the amount of the levy but, nevertheless, uses the amount of taxes that will be generated by that maximum levy as a revenue source in its budget for a particular period. Therefore, although not the result of a budgetary process, the levy can be specifically identified with a particular budget and, thus, a budgetary (fiscal) period. 168. Also, the relationship of property taxes to the budget is different from the relationship of sales, income, or other taxes to the budget. Although these other taxes exist because of a government’s need to obtain resources, they are not directly controlled or established by each period’s budget. Instead, their eventual receipt at certain amounts normally is controlled by law, such as constitution, statute, or ordinance, and those taxes would be payable at a predetermined rate even if budgets were not prepared. Also, with income and sales taxes, it is clearer that an economic event, rather than a budgetary event, is the event underlying the revenue. 169. In developing the criteria for property tax revenue recognition, the Board was aware of several factors that required it to define the term property tax due date. First, property tax due dates sometimes are not stated and, if a due date is not stated, the bills often are due when they are issued, which may vary from year to year. Also, as often is the case, a property tax installment normally does not have a single due date, but rather is due over a period of time, normally a month, effectively making the day before the past-due date the actual due date. Therefore, this Statement defines the property tax due date for purposes of recognizing revenue and reporting receivables as the last day before penalties or interest begin to accrue. 170. The Board believes using the demand criterion will help ensure consistent property tax revenue recognition. Several respondents to the 1987 ED cited situations in which changes in the budgetary (fiscal) period for which levied could result in significant inconsistencies in revenue recognition if recognition were based only on the budgetary period. They gave the example of May and October property tax installments being moved from financing the budget in the period beginning July 1 to financing the budget of the period ending the previous June 30. With the demand criterion, the May installment could be recognized as revenue for the period ending June 30 if the budgetary period for which levied was changed. However, the October installment could not be recognized as revenue for the period ending June 30 unless the due date also was changed to a date within the period ending June 30. 59 [Completely Superseded] 171. The Board notes that, in most governmental jurisdictions, the demand (due date) for property taxes is either within or precedes the budgetary (fiscal) period for which the taxes are levied. As a result, for most governments, using the demand criterion produces accrual accounting results no different from that produced if there were only a ―budgetary (fiscal) period for which levied‖ criterion. 172. In some cases, the due date may not be during the budgetary period for which the taxes are levied. This Statement requires property taxes received before the budgetary period for which levied to be reported as deferred revenue and recognized in the budgetary period for which levied. Property taxes that are due after the budgetary period for which levied should be recognized as revenue in the period due. 173. With an accrual basis of accounting, receivables usually are recognized at the same time as revenues. However, to provide accountability for property taxes, the Board considered whether and in what situations property tax receivables should be reported before revenue recognition criteria are met. The Board considered this issue because property taxes often are measurable when levied but before revenue recognition criteria are met. Although some ED respondents would prefer to have property tax receivables reported when the taxes are levied, the Board has not required that reporting based on arguments that it would needlessly inflate the balance sheet. (This effect would occur frequently, because many entities levy property taxes in the period that precedes the budgetary period for which levied.) Instead, the Board decided to require property tax receivables to be reported when the property taxes are due because it believes this is the point at which the entity has an asset, even though the amounts may be levied to fund the budget of (and thus be recognized as revenue in) a later period. The Board believes that in most cases property taxes are due in the period for which they are levied, so that property tax asset and revenue recognition will coincide. 174. The requirement that property tax levy, lien, due, and past-due or delinquent dates be disclosed is incorporated from previous governmental financial reporting standards. The Board believes this information continues to be useful to financial statement users because it provides information about the entity’s schedule for property tax cash flows and the timing of the enforcement of claims against delinquent receivables. 60 [Completely Superseded] Other Taxes 175. Although this Statement provides specific recognition criteria for only sales, income, and property taxes (the more significant revenue sources for most governments), the Board recognizes that there are many other taxes that provide resources to state and local governments. The Board believes the nature of many of those other taxes is similar to those for which guidance has been provided. For example, hotel occupancy taxes, like sales taxes, are based on particular transactions, are charged and collected by the hotel operator at the same time hotel rental is charged and collected, and generally are required to be reported and remitted monthly or quarterly. Therefore, hotel occupancy tax revenue should be recognized when the rental takes place, provided the government has demanded the taxes from the hotel operator by establishing a due date on or before the end of the period or within two months thereafter, regardless of when the cash is received by the entity. Similarly, if hotel occupancy taxes are administered or collected by one government on behalf of another and the taxing government cannot obtain the information it needs to recognize revenue in accordance with the accrual criteria, it should recognize revenue using the recognition alternative required for sales taxes. The Board believes that preparers and attestors, taking guidance from the general and specific recognition and measurement criteria required by this Statement, should be able to appropriately apply accrual-basis recognition to all of their taxes. Fines 176. This Statement requires revenue from fines to be recognized when an enforceable legal claim exists, and it cites several conditions that constitute an enforceable legal claim. The Board believes this requirement is consistent with an accrual basis of accounting because revenue recognition does not depend on the timing of the cash receipts. This Statement also specifically requires an appropriate allowance for uncollectible fines because of the potential for those amounts to be significant for some entities. For example, in areas with a large transient population, a large percentage of parking tickets may never be collected because the cost of collecting them would exceed the amount of the fines. 177. Although the Board believes that accruing fines revenue is appropriate, it also was persuaded by respondent comments to permit cash-basis recognition if accrual is not practicable. Many respondents to the EDs argued against the accrual of fines revenue because of cost–benefit considerations, inadequate systems, practical problems in 61 [Completely Superseded] gathering the data, and measurement problems. Some respondents were especially concerned by the ―softness‖ of the net receivable after the allowance for uncollectibles. Licenses and Permits 178. This Statement generally requires revenue from fees for licenses and permits to be recognized when the government has an enforceable legal claim to the amounts. The grantee of a license or permit generally has no legal right to exercise the privilege being granted by the license or permit until the fee is paid. Therefore, for purposes of revenue recognition, a government’s enforceable legal claim to license and permit fees arises when the fee is paid, provided the government has no obligation to refund amounts paid. The Board recognizes that license and permit fees often are paid before the start of the privilege period, but believes that cash-basis recognition will satisfy the accrual-basis recognition requirement for fees for licenses and permits. 179. The Board observed that governments require citizens to obtain licenses and permits so that the governments can regulate the activities involved. In some cases, the fee charged simply provides some degree of cost offset. In other cases, however, the government charges the fee to finance expenditures associated with regulating the activity during the same period for which the license (or permit) is being issued. In these cases, the Board believes that a measure of interperiod equity requires revenue recognition that matches it to the license period and thus the associated expenditures. Therefore, this Statement permits governments to allocate fee revenue over the license period. Conditions that indicate the need to match fee revenue with expenditures include a timing difference between the period in which the fee is collected and the license period. The Board notes that governments may use a special revenue fund to account for this activity; however, entities may also allocate fees revenue reported in the general and other governmental funds. 180. The requirements in this Statement for license and permit fees revenue recognition are similar to but different from what was proposed in the EDs. The EDs proposed that ―nonexchange fees‖ be recognized as revenue based on the underlying event—either a single transaction or a period of time. Transaction-based fees were proposed to be recognized as revenue when the entity had an enforceable legal claim to unpaid amounts or had no obligation to refund amounts paid. Period-based fees were proposed to be recognized as revenue ratably over the period covered by the fee. However, if allocation would not be material to total revenue, revenue could be recognized when the fee was 62 [Completely Superseded] either due or received. Therefore, in many cases, the proposals in the EDs would have recognized revenue when fees were received. 181. Although most of the ED respondents with comments on the proposals for recognizing fees revenue agreed with them, a few disagreed. Some disagreed with allocating period-based fees, citing impracticality, immateriality, and cost-benefit concerns. Other respondents disagreed with the option not to allocate period-oriented fees; they believe that period-based fees always should be allocated. Also, respondents were sometimes uncertain of the types of transactions to which the proposed accounting should apply. The Board believes that both the change in approach contained in this Statement and the clarification that the fees involved relate to licenses and permits will alleviate many of these respondents’ concerns. Donations 182. This Statement requires revenue from donations of financial resources to be recognized when the entity has an enforceable legal claim to the financial resources and it is probable they will be received. A government’s claim to a donation exists when the assets are received, but it also may take place before the assets are received, for example, if property is willed to a government. Even though this Statement’s guidance for donations does not apply to pledges for future transfers of resources, the Board believes that having basic guidance in this Statement that requires accrual-basis recognition of donations is necessary and helpful. 183. Generally, this Statement requires that governments not report the donation of a capital asset in the operations of the period. This is because the asset donated is not a financial resource. However, this is not true for donations of capital assets that the entity intends to sell immediately. This is because the current- or future-period receipt of financial resources takes place primarily because of the donation, not the sale, and that inflow of financial resources should be recognized as revenue in the period of the donation. However, this Statement requires that the intent to sell the asset be accompanied by the ability to sell it, evidenced by a subsequent sale or contract to sell. 184. Comments from ED respondents show that they generally agree with the accounting for capital asset donations required by this Statement. However, some respondents to the 1989 ED prefer that all capital asset donations be reported in the operating statement, as had been proposed in the 1987 ED. However, the Board was persuaded by comments on 63 [Completely Superseded] the 1987 proposal that the treatment complicates and inflates the operating statement and is inconsistent with a measure of financial resource flows. Some other respondents to the 1989 ED said the proposal for evidence of the intent to sell donated capital assets is too strict and wanted, instead, a criterion of ―good faith‖ intent to sell. The Board continues to believe that, for purposes of revenue recognition, ―intent to sell‖ should be clearly established and that the criteria in this Statement are appropriate. 185. A few respondents to the 1987 ED stated that the Board should provide guidance for donations received with restrictions on their use. The Board notes, however, that financial reporting about restrictions on the use of donated assets is accomplished through display in restricted accounts and funds, not through differences in revenue recognition. Because the intent of this Statement is to provide operating statement recognition and measurement standards, not financial reporting display standards, this Statement includes no guidance on the display of restricted donations. 186. One respondent to the 1989 ED questioned whether the guidance for donations was intended to apply to ―donations‖ from other governments, that is, grants. The Board did not intend that the donation provisions apply to grants. The recognition and measurement of grants revenue is the subject of another Board project. Accordingly, this Statement defines donations, for purposes of applying the standards, as voluntary contributions of resources to a governmental entity by a nongovernmental entity. Other Nonexchange Revenues Administered or Collected by Another Government 187. This Statement allows alternative revenue recognition for fines, fees for licenses and permits, and other nonexchange revenues administered or collected by another government if the reporting government cannot obtain the information it needs to apply the accrual recognition criteria. The Board believes the alternative allows the reporting government to get as close as possible to the accrual if the amounts are measurable and verifiable. The alternative starts with recognition of cash received during the period because, unlike tax systems, there is no standardized lag between receipt and distribution of nonexchange revenues in the systems run by governments that collect fines and fees for others. 64 [Completely Superseded] Charges for Services 188. User fees are charges for specific goods or services and result from exchange transactions; that is, they are earned. (User fees differ from fees for licenses and permits. Licenses and permits grant the fee payor the privilege of engaging in a regulated activity; user fees are paid to purchase goods or services.) The Board believes that user fees are charged when there is an intent to recover some or all of the expenses or expenditures associated with providing the goods or services. Often, these activities and fees are reported in proprietary funds, with revenue recognized as the fees are earned, thereby matching revenues with the cost of services, and measuring net income and capital maintenance. Sometimes, however, these activities and fees are reported in governmental funds, and the Board believes recognition of this revenue should not differ just because it is reported in governmental funds. Therefore, this Statement requires these revenues to be recognized in the governmental funds when earned, regardless of when received, thereby ―matching‖ user fee revenues with associated expenditures. 189. Respondents to the EDs generally agreed with the proposed recognition of revenue from user fees. However, respondents were sometimes uncertain of the types of transactions to which the accounting should apply. Therefore, the Board has clarified the provisions in this Statement by indicating that user fees are charges for specific goods or services and by providing several examples. The Board believes the substance of the transaction and past experience with similar transactions should enable entities to determine whether fees are paid for a privilege or for goods or services. Investment Gains, Losses, and Income 190. This Statement requires recognition of investment interest and dividends when earned. Investment income is measurable when earned and recognition at that time appropriately reports the effects of the transactions when they take place. 191. This Statement requires equity securities to be reported at cost and debt securities at cost or amortized cost. Investment gains and losses are required to be recognized when an investment is sold. The Board believes these requirements are consistent with current practice. The Board considered the applicability of FASB Statement No. 12, Accounting for Certain Marketable Securities, which generally applies to private-sector business enterprises. This Board believes that the FASB Statement 12 requirement to value marketable equity securities at the lower of cost or market is a practical solution for 65 [Completely Superseded] entities investing in those securities and that it was adopted to maintain comparable valuation for portfolios in a declining market, while preserving the integrity of historical cost in a rising market. However, the Board believes equity securities usually are not held in governmental fund investment portfolios. Until the Board can thoroughly examine the issues involved in the valuation of investments, it believes the cost methods used in current practice are appropriate. 192. Many respondents to the EDs agreed with these proposals for investment valuation and gain, loss, and income recognition. However, some disagreed with the proposed valuation methods, preferring instead market or lower of cost or market. Others suggested that gains and losses on investment swaps and exchanges should be deferred and amortized instead of being recognized immediately. The Board considered the positions of these respondents but decided to retain the requirements of this Statement until it can thoroughly examine the issues in a future investments project. 193. This Statement requires that losses from other-than-temporary declines in the market value of investments be reported in current-period operations, with a corresponding reduction in the carrying amount of the investments. An other-than-temporary decline in the market value of an investment would arise from situations affecting the issuer and the market price of its securities, such as default or bankruptcy. This Statement also requires that an estimated loss be recognized when the market value of an investment declines below carrying amount and it is probable the loss will be realized in the future. An example of this is when the entity expects to sell the investment at a loss to meet its cash flow needs. FASB Statement No. 5, Accounting for Contingencies, requires contingent losses to be accrued when it is probable that an asset had been impaired at the date of the financial statements and the amount of the loss can be reasonably estimated. In both situations described above, it is probable that an asset had been impaired. In the first set of circumstances, the impairment is the result of external events; in the other, the loss recognition is the result of the entity’s expectation that the investment will be sold while in a temporary decline. In both circumstances, the loss contingency accrual requirements of FASB Statement 5 are met, and this Board believes these losses should be recognized currently with a corresponding reduction in the carrying amount of the investments. Most respondents to the EDs who addressed the proposals for investment write-down agreed with the requirements. 66 [Completely Superseded] 194. This Statement provides guidance for reporting investments in mutual funds. The proposal was added to the 1989 ED. The Board believes the requirements of this Statement for mutual fund accounting are consistent with current practice. According to Codification Section I50, ―Investments, including Repurchase Agreements,‖ paragraph .128, a mutual fund is an open-end management investment company that sells its shares of stock to investors and invests, on the shareholders’ behalf, in a diversified portfolio of securities and continuously offers its shares for sale to the public. That paragraph also points out that mutual funds send out periodic statements showing deposits, withdrawals, and dividends credited to the investor’s account. 195. The Board believes a mutual fund investment is like an investment in a pool and not like an investment in either equity or debt securities. Therefore, this Statement requires similar valuation for investments in mutual funds and those in investment pools. Further, the Board believes valuation of a mutual fund investment at cost or amortized cost (as required for equity and debt securities) would not be appropriate. This Statement requires changes in a mutual fund account from other than deposits and withdrawals to be recognized as a net figure, even though, for purposes of reporting each investor’s account, some funds may separately report the effect of dividends, interest, and net realized and unrealized gains of the securities held by the fund. The Board does not believe differences in the way mutual funds report the transactions affecting the accounts should result in differences in reporting by governmental entities with mutual fund investments. Respondents to the 1989 ED generally agreed with the proposal for mutual funds. 196. This Statement requires the use of other-than-cost methods for reporting certain investments. As illustrated in paragraph 65, certain situations require some generally accepted valuation method other than cost. For example, if a contractual relationship with an outside entity requires market valuation, then that method is more meaningful and should be used for financial reporting purposes. 197. In many cases, gains, losses, and income from specific investments become the assets of funds other than the funds that report the investments. Often, this is the result of legal or contractual provisions; for example, some state laws require that, unless specifically provided for elsewhere in state law, all amounts earned by all investing activities of the state treasurer should accrue as revenue to the general fund. This Statement generally requires that if the situation takes place because of a legal or contractual provision, the gains, losses, and income should be recognized in the recipient 67 [Completely Superseded] fund; otherwise, the gains, losses, and income should be recognized in the fund reporting the investment, with a transfer reported to the recipient fund. However, this Statement requires that if gains, losses, and income from specific investments become the assets of a fund other than the fund that reports the investments because of legal or contractual provisions requiring a transfer of the resources (for example, from a nonexpendable to an expendable trust fund), a transfer should be reported. 198. A few respondents to the EDs agreed with the proposal, but slightly more disagreed, with most of them preferring to always recognize the gains, losses, and income in the fund reporting the investment. They believe legal provisions should not govern reporting requirements, that the difference proposed for reporting introduces inconsistency, and that their alternative would better report the economic effect of the transaction and the movement of resources across funds. The Board reviewed these arguments and disagrees. The Board believes the alternative proposed would result in excessive reporting of interfund activity and that reporting in accordance with legal provisions does have a place in governmental financial reporting. Except for those legally or contractually required transfers of resources, the Board believes the amounts should be reported in the operations of the fund legally or contractually designated to receive them, not in the fund reporting the investment, because the amounts were never ―available‖ to the fund reporting the investment. However, in the absence of such legal or contractual provisions, the Board believes any investment gains, losses, and income from specific investments are ―available‖ to the fund reporting the investments and, therefore, should be recognized in the operations of that fund. If, for whatever reason, the amounts become assets of another fund, a transfer should be reported in the financial statements. Operating Leases 199. The 1989 ED proposed that operating leases of governmental funds generally be accounted for using the lease contract terms, regardless of whether the lease terms required scheduled rent increases or equal annual payments. This is because the Board believes that the contract terms should be the basis for the accounting unless those terms are not ―systematic and rational,‖ for example, if scheduled rent increases are the result of a financing. Shortly after the 1989 ED was released, the Board began a project on operating leases with scheduled rent increases. That project resulted in GASB Statement 13, which generally requires the use of the contract terms to account for operating leases with scheduled rent increases, regardless of the fund type used to report the transactions. 68 [Completely Superseded] Many respondents to both the 1989 ED and the ED of Statement 13 generally agreed with the operating leases proposals. Because of the issuance of Statement 13, detailed provisions for operating leases with scheduled rent increases are not needed in this Statement. Other Financing Sources—Capital Leases and Sales of Capital Assets 200. This Statement requires other financing sources from the capital lease or sale of capital assets to be recognized at the inception of the lease term or when the asset is sold, respectively, regardless of when amounts are received because these are exchange transactions and these are the points at which the entity earns the amounts. 201. This Statement requires the inflow of financial resources resulting from the sale or capital lease of capital assets to be reported as an other financing source, rather than as revenue. Generally, operating statement classification of the effect of transactions as revenues, expenditures, and other financing sources and uses is an issue for the financial reporting project. However, the Board believes that amounts received from the conversion of capital assets into financial resources through sale or capital lease are not properly reported as revenue. This is because it believes that to properly measure interperiod equity, revenue should include only amounts related to new resources obtained in the current period, not amounts for conversions of existing resources into another form. 202. Except for the requirements concerning the measurement of operating lease revenue and expenditures and the reporting of other financing sources in full at the inception of a capital lease term, this Statement refers to Cod. Sec. L20 for guidance on treatment of leases. That section, in turn, refers to FASB Statement No. 13, Accounting for Leases, as amended and interpreted, for classification, recognition, and measurement criteria and provides guidance for applying those standards in governmental accounting and financial reporting. Because of higher priorities, this Board has not fully examined whether the requirements of FASB Statement 13, as amended and interpreted, are completely applicable to the public sector. The Board may examine the classification, recognition, and measurement criteria for leases at a later date. 203. This Statement provides measurement criteria for arm’s-length, exchange transactions for long-term installment sales of capital assets. In these sales, each party is acting in its own best interest, and the asset is being sold at fair value. Accordingly, an other financing source is required to be reported at that value even though financing terms 69 [Completely Superseded] appear to indicate another sales price. These measurement criteria do not apply, however, to capital asset sales in other than business-like, arm’s-length transactions. (For example, acting in the public interest, a government sells surplus capital assets to another government at a price substantially below market value or vacant land in the downtown area to a redevelopment firm at a price below acquisition cost.) Measurement of these types of transactions will be separately considered by the Board. Operating Expenditures 204. The Board believes that to measure interperiod equity, operating expenditures generally should be recognized when transactions or events that result in claims against financial resources take place. Under previous standards, governments did not recognize operating expenditures for those liabilities that would not be paid with currently available financial resources. This was consistent with the previous measurement focus on sources, uses, and balances of expendable available financial resources. However, the Board believes that measurement focus did not permit the assessment of interperiod equity; also, it permitted budgetary practices and the timing of cash flows to unduly influence the financial reporting of results of operations. 205. With accrual recognition of operating expenditures, the meaning of expenditures changes from amounts that were paid during the period or that are payable with currently available financial resources to a financial measure of the transactions or events affecting the operations of the current period that require the use of financial resources in either current or future periods. The Board recognizes that users of governmental financial reports will need to be educated about the implications of this change. Users need to know that it is a new perspective on the same conditions that the government faced before converting its governmental fund operating statements to the flow of financial resources measurement focus. It is a perspective intended to improve accountability by requiring the operating statement to show the financial consequences of transactions or events in the period they take place. 206. Governmental fund operating expenditures arise from both exchange and nonexchange transactions. In an exchange transaction, each party to the transaction receives and sacrifices something of value. This Statement provides detailed recognition criteria for operating expenditures arising from certain exchange transactions, including the purchase of services, such as personal services, insurance, rent, and utilities. However, many governmental fund operating expenditures arise from transactions other than 70 [Completely Superseded] exchanges. These are transactions in which governments transfer resources to other governments and to citizens for legislatively approved programs, such as education, housing, and food. The Board is separately researching the issues on accrual-basis recognition of operating expenditures arising from nonexchange transactions. Prepaid Items 207. This Statement requires prepaid items to be reported as financial resources and expenditures for prepaid services to be recognized when the related services are received (the consumption method). The Board believes this method is consistent with the flow of financial resources measurement focus because it believes prepaid items are in essence financial resources—cash is converted into another form that will be used to satisfy a particular future liability as it arises. This Statement defines prepayments as payments in advance of the receipt of goods or services in exchange transactions. The Board believes additional issues need to be considered before standards can be established for recognition of payments in advance in nonexchange transactions. These issues will be considered in the Board’s research on intergovernmental revenues and expenditures and other nonexchange operating expenditures. 208. Many respondents to both EDs commented on the proposal to recognize prepayments as expenditures using the consumption method. Virtually all of them agreed with the proposal. Supplies Inventories 209. This Statement requires supplies inventories to be reported as financial resources and expenditures when used in operations (the consumption method). The Board believes the consumption method for supplies expenditures is necessary to measure interperiod equity and, if governmental funds are to measure interperiod equity as much as possible, the consumption method should be used in those funds. It believes supplies inventories are financial resources because they are a conversion of cash (a financial resource) into another form that will be used instead of cash in future operations. This treatment is consistent with that for prepayments, which is also a conversion of cash into another form of financial resources. 210. About three-quarters of the respondents to both EDs with a position agreed with using the consumption method for supplies expenditures. The other respondents preferred 71 [Completely Superseded] the purchases method (recognition of expenditures when supplies are acquired) as a requirement or an option. These respondents do not think the consumption method is cost beneficial. They also do not believe supplies inventories are financial resources. Further, they believe that using the consumption method for supplies expenditures but the purchases method for capital expenditures confuses the measurement focus through different treatment of similar items (that is, physical assets). 211. Some of those respondents that prefer the purchases method for recognizing expenditures for supplies and prepaid items pointed out that the transactions are generally immaterial and questioned whether the Board intends the consumption method to be applied to immaterial items. As stated at the end of the Standards section, the provisions of this Statement need not be applied to immaterial items. The requirement to use the consumption method is not intended to imply a lower level of materiality for these particular transactions. If the effect of using a method other than the consumption method is not materially different from using the consumption method, the other method may be used. 212. A few ED respondents suggested that the Board establish valuation and flow assumptions for supplies inventories. The Board considered this issue, but decided that existing GAAP should apply and guidance in this Statement is not necessary. Compensated Absences 213. This Statement requires expenditure recognition for certain compensated absences when the benefits are earned by employees. This recognition is required for vesting sick leave that will be paid as a termination benefit and for accumulating or vesting compensated absences for other than sick leave. Previous standards required recognition of compensated absences expenditures only for the amount of the liability that normally would be liquidated with expendable available financial resources. 214. Many respondents to the 1987 ED disagreed with the compensated absences proposal because it required reporting the liability in the fund, thus reducing fund balance. Even though the issue of displaying this liability was removed from the 1989 ED, respondents continued to be concerned about the eventual effect of the accrual on the fund balances of governmental funds. These respondents believe that reporting compensated absences as a fund liability would significantly reduce fund balance, sometimes to a deficit. Some also expressed the view that governments are a going concern, and thus the 72 [Completely Superseded] compensated absences liability is perpetual. Therefore, these respondents believe the liability should not affect the fund’s financial position because, in effect, it will never be paid. Some respondents also believe there would be practical problems in allocating the liability to individual funds and tracking employees who transfer from one fund to another, thus earning the benefit when their salary is paid by one fund but taking and being paid for the benefit when their salary is paid by a different fund. 215. Before issuing the 1989 ED, the Board considered the issue of compensated absences at length. To obtain further information about the nature of the transactions in the public sector, the Board conducted a survey of the compensated absences benefits, funding, and financial reporting of more than seventy state and local governments. The results of this limited survey led the Board to believe there is a need for more research on how to recognize and measure compensated absences expenditures using the flow of financial resources measurement focus and an accrual basis of accounting. Specifically, it agreed that it needed more research about whether FASB Statement No. 43, Accounting for Compensated Absences, provides the proper criteria. Rather than delay issuing this Statement to reexamine compensated absences recognition and measurement, the Board decided to adopt a modified version of FASB Statement 43 (as discussed below), with the understanding that it will reexamine the issues before this Statement becomes effective. 216. A few respondents to the 1989 ED commented on the Board’s intended reexamination and disagreed with the approach. They believe that the final standards for compensated absences expenditure recognition and measurement should be resolved either entirely outside this Statement or before this Statement is issued. The Board decided nevertheless to issue only the basic recognition standards in this Statement. The Board wishes to make it clear that reexamination of the compensated absences expenditure standards will be within the context of the flow of financial resources measurement focus and An accrual basis of accounting. Further, including these standards in this Statement advances the Board’s work on compensated absences by providing a framework for the reexamination. 217. FASB Statement 43 permits optional recognition for accumulating nonvesting sick leave—it can be accrued as earned or recognized as taken. This Statement differs from FASB Statement 43 in that it does not permit accrual of nonvesting sick leave benefits as they are earned; instead, recognition is required as the nonvesting sick leave is taken. In 73 [Completely Superseded] effect, the amount is recognized as part of normal salary expenditures. Respondents to the 1989 ED that commented on this proposal generally agree with it. 218. This Statement also differs from FASB Statement 43 on the recognition of vesting sick leave. FASB Statement 43 requires recognition when the employees earn the benefits. This Statement, on the other hand, requires recognition when the employees earn the benefit, provided the benefit is expected to be paid as a termination benefit, for example, as a cash payout at termination. Respondents to the 1989 ED that commented on this proposal generally agree with it, although some believe that the language of the proposal was somewhat unclear. Therefore, changes to the language were made to clarify the standard. 219. The Board made these modifications to the provisions of FASB Statement 43 partly because of the nature of sick leave benefits in government. The Board’s compensated absences survey found that although about three-quarters of the survey respondents allow some or all of their employees to vest some or all of their sick leave balances, no respondent vests all employees with the full value of their total accumulated sick leave balances. Instead, the governments limit the vested benefit by using certain techniques, such as reducing the balance by a ―vesting rate‖ such as 50 percent, limiting vesting only to retiring employees or employees with twenty years of service, or limiting the number of days that will vest even though there may not be a limit on accumulation. Therefore, the Board believes most sick leave in the public sector tends to be accumulating but nonvesting or only partially vesting. 220. The Board also observed that most of the survey respondents were not reporting a liability for accumulating nonvesting sick leave. Of the few respondents that were reporting a liability, most were reporting an amount equal to the full accumulated balances; that is, they were not reporting only the portion for which payment was probable. Therefore, the Board believes most governments are not reporting a liability for accumulating nonvesting sick leave and those that are often may be overstating it. The Board also notes that the cost of determining the amount for which payment is probable may exceed the benefit of reporting it. Accordingly, this Statement prohibits reporting an expenditure for accumulating nonvesting sick leave when it is earned. 221. This Statement does not include standards for valuing compensated absences liabilities. Although only a few respondents disagreed with the ED proposals for using 74 [Completely Superseded] current salary rates generally to value the liability and for not including a provision for fringe benefits, the Board agreed that those provisions represented a ―fine-tuning‖ of the compensated absences expenditures recognition standard. Therefore, the Board believes these issues would be better handled in its reexamination of compensated absences recognition and measurement. 222. Because of the frequency of the use of sabbatical leave in the governmental environment, the Board decided that this Statement should provide specific recognition criteria for those absences. Although FASB Statement 43 does not provide specific recognition criteria for sabbatical leave, it is discussed in that Statement’s Basis for Conclusions. The recognition criteria for sabbatical leave in this Statement encompass not only those situations discussed in the Basis for Conclusions of FASB Statement 43, but also leave for additional training, which often takes place in elementary and secondary educational systems. Although a few respondents disagreed with the proposal, stating that the reporting of the liability should not depend on the purpose for the leave, the Board continues to believe the criteria are appropriate, especially for expenditure recognition. Operating Leases 223. This Statement requires expenditures on operating leases that require level payments to be recognized as they accrue over the lease term and to be measured in accordance with the terms of the lease agreement. It also refers to the provisions of GASB Statement 13 for guidance on recognizing expenditures for operating leases with scheduled rent increases. The reasons for these requirements are discussed in paragraph 199. Capital Expenditures 224. In the flow of financial resources measurement focus, capital expenditures are recognized when capital assets are acquired, regardless of when amounts are paid. The recognition standards in this Statement are consistent with practice and previous standards for recognizing capital expenditures. Installment Purchases 225. This Statement provides measurement criteria for capital assets acquired by longterm installment purchase in an arm’s-length, exchange transaction. Because in these transactions each party to the exchange is acting in its own best interest, the asset is being 75 [Completely Superseded] acquired at fair value, and the capital expenditure should be measured at that value even though financing terms appear to indicate another purchase price. Capital Leases 226. This Statement refers to Cod. Sec. L20 for guidance on the treatment of capital leases. That section, in turn, refers to FASB Statement 13, as amended and interpreted, for guidance on the classification, recognition, and measurement criteria for capital leases. As discussed in paragraph 202, the Board may examine the classification, recognition, and measurement criteria for leases at a later date. Debt 227. This Statement provides guidance for reporting in the operating statement the effect of issuing debt that provides financial resources to, and that is expected to be repaid from the financial resources of, governmental funds. However, it provides operating statement recognition guidance for the repayment of only operating debt and balance sheet reporting guidance only for capital debt. As discussed below, the capital reporting project will provide standards for the operating statement effect of the payment of capital debt and will reexamine the operating statement reporting of the issuance of that debt. As discussed in paragraphs 107 through 109, the display of liabilities arising from governmental fund operating expenditures, including debt issued to fund operating expenditures or operating deficits, will be considered by the Board in its financial reporting project. 228. This Statement distinguishes long-term debt issued to acquire capital assets or to finance certain nonrecurring projects or activities that have long-term economic benefit (general long-term capital debt) from debt issued to finance operations or in anticipation of revenues (operating debt). That distinction is evidenced by the requirement to report the general long-term capital debt as an other financing source in the operating statement, but not to report an operating statement effect for the issuance of operating debt. The Board believes that in an operating statement designed to help achieve a measure of interperiod equity, it is appropriate to report an inflow of financial resources for debt incurred to acquire capital assets or to finance certain nonrecurring projects or activities that have long-term economic benefit; those kinds of debt are incurred for the benefit of the entity and its constituency over current and future periods. This is especially necessary because capital asset acquisitions and nonrecurring projects and activities are reported as expenditures in the operating statement. 76 [Completely Superseded] 229. The Board strongly believes that operating debt should not be reported in the operating statement as an inflow of financial resources. This is because the Board believes the governmental fund operating statement should report the extent to which the entity’s operating expenditures were covered by its revenues. It does not believe interperiod equity can be measured (or that it should be reported as having been achieved) by reporting borrowings for operating purposes as an inflow of financial resources in an operating statement based on financial resource flows. 230. This Statement provides guidance for the balance sheet reporting of capital debt and requires that general long-term capital debt continue to be reported in the GLTDAG. The Board’s capital reporting project will further consider how to recognize, measure, and report the changes in and balances of that account group, as well as other capital-related activity and balances. Certain reporting alternatives being considered in that project may change this Statement’s requirement to report the issuance of capital debt in a governmental fund operating statement. (See the GASB’s March 1, 1989 Discussion Memorandum, Capital Reporting.) For example, one capital fund alternative discussed in the DM would not report the issuance of capital debt as an inflow in the operating statement. However, other alternatives being considered would. Also, different methods of dealing with the debt’s issuance discount and premium are considered. The capital reporting standards will be available for simultaneous implementation with this Statement and the other related recognition, measurement, and financial reporting Statements. Definition of General Long-Term Capital Debt 231. This Statement defines general long-term capital debt to be the long-term financing for capital assets and certain nonrecurring projects or activities that have long-term economic benefit that will serve the entity and its constituents over current and future periods. The Board believes, therefore, that it is appropriate in measuring interperiod equity to charge future periods with the effect of repaying that financing. Respondents to the EDs generally agreed with the overall definition of general long-term capital debt. 232. The 1989 ED proposed to include within the definition of general long-term capital debt the debt that is issued to finance certain nonrecurring projects or activities that have long-term economic benefit that will serve the entity and its constituents over several periods. Some respondents to the 1987 ED had expressed concern about the treatment of long-term debt issued for certain purposes other than capital asset acquisitions, which they believe also can be viewed as benefiting and serving a governmental entity’s constituency 77 [Completely Superseded] over several periods. Examples given included hazardous waste cleanup and redevelopment of blighted property. The Board surveyed the purposes—other than the acquisition of long-lived, tangible assets—for which governments have issued debt that is presently reported in the GLTDAG. About half of the fifty-nine survey respondents, primarily states, cited GLTDAG debt issued for various purposes other than capital asset acquisitions. These include the protection and conservation of environmental resources (toxic waste cleanup, asbestos abatement, and so forth), economic development (financial assistance to businesses willing to locate or expand their operations in the state or locality), the acquisition or improvement of residential properties for qualifying citizens, and the purchase of development rights from farmers. The Board believes certain projects or activities that are nonrecurring and that have long-term economic benefit to the citizenry have some of the characteristics of capital assets. Therefore, if debt is issued to finance the project or activity, that debt should be treated like general long-term capital debt. The Board is further researching this concept and will identify the transactions that should be treated in this fashion and will provide guidance in a separate Statement before the effective date of this Statement. Although some respondents to the 1989 ED disagreed with the Board’s proposal, the Board continues to believe that its position on the issue is sound. 233. This Statement provides for general long-term capital debt to include debt issued after capital expenditures are incurred. The Board understands that governments may initially finance capital expenditures with monies available (for example, in the general fund) in anticipation of acquiring long-term financing. However, the Board does not believe interperiod equity can be measured effectively by reporting financial resource inflows for bonds issued for capital assets that have already been paid for and have been in use for some time. Therefore, this Statement permits ―retroactive‖ borrowings for capital asset acquisitions to be reported as general long-term capital debt only if one of two conditions is met: The first condition is preacquisition intent to finance the capital assets on a long-term basis; the second is obtaining the long-term financing within one year after the capital asset is acquired. The Board believes that only in these situations is ―retroactive‖ borrowing clearly related to the capital asset acquisition. Further, although the Board has left the evaluation of preacquisition intent for long-term financing to financial statement preparers and auditors, it believes there should be public recognition of such intent; that is, internal memorandums or informal planning does not sufficiently evidence intent. The Board further cautions that such intent should not be considered to include broad or general authorization for the long-term financing of unspecified capital 78 [Completely Superseded] assets; instead, the intent should relate to specific assets or classes of assets. Also, the long-term financing should be obtained within a reasonable period of time after the acquisition to reasonably relate to the capital assets. As further evidence that preacquisition intent for long-term financing exists, the Statement also requires that the ―advance financing‖ of capital asset acquisitions from existing funds be reported as an interfund borrowing if the monies are provided by a fund other than the one that reports the capital expenditures. 234. This Statement requires long-term liabilities incurred to provide funding for the capital purposes of other governmental entities (specifically, debt issued to finance capital grants to other governments) to be considered general long-term capital debt and to be reported in the GLTDAG. The Board believes that although the capital purposes financed with the debt are not those of the reporting entity, the debt does support capital purposes that will serve a portion of that entity’s constituency over many reporting periods. Although many respondents to the EDs that took a position on this proposal agreed with it, others thought it was inappropriate, saying it would distort a matching of the GFAAG and the GLTDAG because the assets are not those of the reporting entity. The Board will consider in its capital reporting project whether and how the two account groups should be ―matched.‖ 235. As defined in this Statement, general long-term capital debt includes debt issued for the long-term financing for capital purposes, even though some individual debt issues may be short-term, such as bond anticipation notes (BANs). The Board believes that if BANs were excluded from general long-term capital debt, recognition within the governmental funds would be driven by the timing of cash flows, rather than by the measure of interperiod equity. That is, the Board believes BANs issued as part of a long-term financing plan for capital purposes should be reported as general long-term capital debt because future periods benefit from the project financed by the debt, even though the debt is short-term and therefore payable currently. Previous standards required BANs to be reported as fund liabilities, primarily because they would require the use of financial resources in the short term. Although this fact still exists, other facts make this Statement’s treatment of the debt more appropriate. First is the measure of interperiod equity as described above. Second, the expectation that some or all of the debt will be replaced with other debt means that resources required for the future payment of the shortterm debt will be provided primarily from sources other than revenues. 79 [Completely Superseded] 236. The Board believes the long-term financing to acquire a capital asset should be reported only once in the GLTDAG; that is, not more than one long-term financing plan can, through the use of the GLTDAG, be associated with future periods. The Board believes the issuance of debt should be reported as an inflow in the operating statement only if those amounts will be converted to another form of asset that will be used to benefit future periods. However, the Board believes this situation of ―duplicate‖ financing will seldom happen. This is because it believes that if financing for a capital asset acquisition is ―duplicated,‖ the ―duplicate‖ financing usually will be used to acquire other capital assets and thus should be treated as general long-term capital debt. However, the Board believes it is important to illustrate the concept of a one-to-one relationship between capital assets and related debt through this example and has accordingly done so in a footnote to paragraph 88. 237. This Statement excludes from general long-term capital debt any liabilities arising from capital asset acquisitions that are not part of a long-term financing plan. These would include accounts payable and other short-term vendor financing with a term of one year or less when incurred. Because of the short-term nature of the financing plan, the intent in these situations is that the current period is acquiring capital assets for use by future periods without also passing on the burden of financing the assets. Because of this, short-term financing of a capital asset acquisition is similar to acquiring a capital asset with cash, and the fact that the cash payment will take place in the next period is a matter of the timing of cash flows, not a matter of reporting the effect of transactions on financial resources. Debt Issuance 238. This Statement requires the components of the proceeds of general long-term capital debt to be presented separately in governmental fund operating statements. These components are the face amount of the debt, the issuance discount or premium, and issue costs paid out of the debt proceeds. Previous standards required only the net proceeds to be reported—in other words, the amount received. The Board believes operating statement presentation of these components will provide more complete information about the terms of the financing. Further, the Board believes the costs of obtaining financing should be reported as issue costs, whether paid directly by the entity or deducted from the amount received from the issuance of the debt. The Board believes the cost of underwriting, often the single largest cost of obtaining financing, has been obscured by 80 [Completely Superseded] previous requirements to report only net proceeds, thus leading to a material understatement of financing costs. 239. Respondents to the EDs generally agreed with the separate presentation of the components of the proceeds of general long-term capital debt. However, a few believe issuance discounts and premiums should be deferred and amortized to the operations of future periods to be consistent with an accrual basis of accounting. The Board intends to further consider the recognition and measurement of debt service expenditures on general long-term capital debt (including the effect of issuance discounts and premiums) in its capital reporting project. Debt Service 240. This Statement provides guidance for the recognition and measurement in the operating statement of activities related to the payment of operating debt. However, it does not provide similar guidance for general long-term capital debt. The EDs had proposed debt service expenditure standards for general long-term capital debt. However, because those standards would have been replaced by standards developed in the capital reporting project for simultaneous implementation with this Statement, the Board sees no need to include them in this Statement. Accordingly, they have been removed. 241. In establishing the accounting for operating debt, the Board decided to distinguish between expenditures incurred on the issuance of debt (issue costs and debt insurance) and expenditures to be incurred on the passage of time (interest). Future periods should not be charged with expenditures incurred on the issuance of debt, and thus those expenditures should not be deferred and amortized. However, future periods should be charged with the fair value interest cost of the financing, because that cost is associated with the passage of time and therefore with future periods. Therefore, for operating debt, this Statement requires interest expenditures to be accrued, issuance discounts and premiums to be deferred and amortized to operations using the interest method, and issue costs, including debt insurance, to be reported as expenditures when the liability is incurred. 242. Many respondents to the EDs addressed these provisions, and most agreed with the interest accrual because they believe it is consistent with an accrual basis of accounting. For the same reasons, they also supported the deferral and amortization of issuance discounts and premiums and the interest method measure of the interest expenditures. Some respondents, however, disagreed with amortizing the issuance discounts and 81 [Completely Superseded] premiums on operating debt, noting that those amounts usually are not material. The Board notes, however, that the general concept of materiality permits different treatment if the difference is not material. 243. Some respondents also did not agree with recognizing expenditures for issue costs for either operating or capital debt. Most supported the deferral and amortization of issue costs, noting that that treatment is consistent with APB Opinion No. 21, Interest on Receivables and Payables. The Board continues to believe, however, that the recognition required by this Statement is the more appropriate method for governmental funds. One respondent to the 1989 ED also questioned the treatment of debt insurance. The Board believes that debt insurance should be treated as an issue cost, and this Statement specifically provides for that treatment. Extinguishments and Defeasances 244. This Statement expands previous standards for reporting advance refundings resulting in the defeasance of debt reported in the GLTDAG to apply to all debt reported in the GLTDAG that is extinguished before maturity, defeased legally or in substance, or refunded at maturity. As previously decided by the Board in its Statement No. 7, Advance Refundings Resulting in Defeasance of Debt, the financial resources obtained and used to refund GLTDAG debt should be reported in the governmental fund operating statement, with classification as other financing uses and debt service expenditures, depending on the source of resources used to retire the old debt. 245. This Statement does not include guidance for extinguishments and defeasances of operating debt. The EDs had proposed to apply the requirements of APB Opinion No. 26, Early Extinguishment of Debt, to these transactions to report a gain or loss for the difference between the reacquisition price and the net carrying amount of the extinguished debt. This would have made the guidance for operating debt associated with governmental funds the same as the present requirements for debt reported in proprietary and similar trust funds. However, the Board agrees with those respondents that believe the accounting gain or loss required to be recognized by Opinion 26 does not represent the economic substance of the transaction. As a result, this Statement does not extend the accounting requirements of Opinion 26 to operating debt. The Board has further decided not to address the issue of extinguishments and defeasances of operating debt at this time. 82 [Completely Superseded] Interfund Transfers 246. This Statement continues existing standards for operating and residual equity transfers. The Board believes, however, that there are many important issues that need to be considered before it can establish standards on interfund transactions. These issues include when and in what amounts these transactions should be recognized and whether they should be reported as revenues and expenditures or as transfers. The Board has examined these issues to some extent in its risk financing and insurance issues project and is planning a more complete examination either as part of its financial reporting project or in a separate project. Expendable Trust Funds 247. Previous standards required expendable trust funds to be accounted for in essentially the same manner as governmental funds. The Board concluded that this requirement should continue. Generally, respondents to the EDs agreed with this proposal, but a few questioned the current requirement to report expendable trust funds in the entity’s financial statements. The Board will consider the reporting of expendable trust funds in the future in an overall review of the reporting of fiduciary activities. Agency Funds 248. This Statement does not apply to agency funds even though previous standards required agency fund assets and liabilities to be accounted for using the same basis of accounting as governmental funds. To change the reporting in agency funds to an accrual basis of accounting could significantly change the reporting in agency funds without adequate research. Therefore, current guidance for agency funds will remain effective until changes are researched and proposed in a future project on reporting fiduciary activities. Effective Date and Transition 249. The requirements of this Statement are effective for fiscal years beginning after June 15, 1994, an extension of one year from the date proposed in the 1989 ED. The Board believes this will allow adequate time to develop, expose, and issue the other recognition, measurement, and financial reporting standards that will be necessary to completely implement the flow of financial resources measurement focus. These standards include those pertaining to financial reporting, capital reporting (recognition and measurement as 83 [Completely Superseded] well as display), pension accounting, risk financing and insurance, and the types of nonrecurring projects and activities that have long-term economic benefit and for which debt meets the definition of general long-term capital debt. As explained in paragraphs 215 and 216, the Board also intends to reconsider how to recognize and measure compensated absences expenditures using the flow of financial resources measurement focus and an accrual basis of accounting. The Board also believes the effective date will give preparers adequate time to implement systems needed to comply with the requirements of this Statement and other pending recognition, measurement, and financial reporting Statements. The Board encourages those involved in governmental financial reporting to begin planning for the eventual implementation of this Statement. 250. Although many respondents agreed with the projects proposed for simultaneous implementation with this Statement, some respondents believe other projects, such as intergovernmental transfers and nonexchange program expenditures and other postemployment benefits (OPEB), should be added. Issues of recognition of grants and other intergovernmental revenues and expenditures and nonexchange operating expenditures were excluded from this Statement because they require further staff research before the Board can develop recognition and measurement standards, and the Board expects to issue a Discussion Memorandum soon. The Board also plans to begin research on accounting for OPEB soon. The Board believes it would be desirable to have the intergovernmental transfers and nonexchange program expenditures and OPEB standards implemented at the same time as this Statement, and plans to proceed toward that goal. However, it does not believe those standards are necessary to implement the new measurement focus and does not intend to delay implementation for them. 251. Early implementation of the standards in this Statement is not permitted because certain other standards will need to be implemented at the same time. Once again, the Board believes that even though the guidance will be issued in several Statements, the pieces are interrelated and should be treated as a single change in governmental financial reporting standards. Once all the necessary Statements have been issued, the Board will consider permitting early application. 252. This Statement is issued without transition guidance. This is because the Board will consider the issue of transition as part of its consideration of liability and fund balance display in the financial reporting project. Many comments were received on the proposals in the 1987 ED for transition to the flow of financial resources measurement focus. These comments primarily concerned whether the cumulative effect of the change should affect 84 [Completely Superseded] governmental fund balances all at once or be phased in over time, whether comparative statements needed to be presented or restated, and how to report the cumulative effect of the change in the periods following the change. The Board will consider these comments in deliberating the financial reporting project. 253. In both EDs, some respondents have asked for a ―window of opportunity‖ for implementing this Statement. These respondents would like to choose one of three possible fiscal periods for implementation to minimize the political sensitivity associated with a significant change in financial reporting. The Board presently has not provided for a ―window of opportunity‖ because it would only need to be considered if the changes in financial reporting significantly affect fund balance. The possibility of such an effect is unclear at this time. Codification 254. Until this Statement, the Board has included in each of its pronouncements Codification instructions to show how the provisions of its pronouncements supersede portions of and blend with the Codification of Governmental Accounting and Financial Reporting Standards. This has been done so that the Codification is considered authoritative. However, the Board is issuing this Statement without Codification instructions for two reasons. First, the Board needs to develop balance sheet display standards that will be needed for governmental financial reporting. Therefore, a codification of the provisions of this Statement would be incomplete. Second, it would not be useful to blend this Statement’s provisions for measurement focus and the recognition criteria for certain revenues and expenditures with existing Codification guidance because this Statement will not be effective for several years and will not be simultaneously effective with many of the present Codification provisions. The Board intends to expose the codification of the provisions of this Statement in the future, probably in its proposed Statement on financial reporting. In the meantime, this Statement will be reproduced separately in the Codification beginning in 1990. 255. The 1987 ED had proposed to revise Codification Section 1700, ―The Budget and Budgetary Accounting,‖ paragraph .116, to recommend that governmental fund annual budgets be prepared on a basis of accounting consistent with that required by the Codification for financial reporting purposes. That proposal was to replace the recommendation currently in the Codification that governmental fund annual budgets be prepared on the modified accrual basis of accounting. Many respondents commented, and 85 [Completely Superseded] although some agreed, most did not. Although some respondents believe in theory that budgeting and GAAP should be the same, many believe the flow of financial resources measurement focus is not appropriate for budgeting, and others disagreed with the proposal because they believe the Board has no role in recommending budgeting standards, that the proposal was inconsistent with the ED’s philosophies, or that the change was not supported by a discussion in the proposed standard. Because the Board is not providing instructions for the codification of this Statement at this time, it is not presently proposing a change to Cod. Sec. 1700.116 and has not reached a conclusion about how the Codification should be revised. The Board does agree, however, that establishing budgetary principles is beyond the Board’s mission. Materiality 256. A few respondents to the 1989 ED thought this Statement should give greater emphasis to materiality and suggested that it be discussed in the Statement. They were particularly concerned because they think the Board is providing guidance on transactions or accounts that will not be material to results of operations or financial position. The fact that this Statement provides guidance for transactions that in many jurisdictions may not have a material effect does not diminish the need for the guidance. The Board leaves the application of materiality to the judgment of the on-site professionals. 257. The Board observes that materiality is defined in the Glossary of Terms in FASB Concepts Statement No. 2, Qualitative Characteristics of Accounting Information, as: ―The magnitude of an omission or misstatement of accounting information that, in the light of surrounding circumstances, makes it probable that the judgment of a reasonable person relying on the information would have been changed or influenced by the omission or misstatement.‖ Paragraphs 123-132 of that Statement discuss the concept. GASB Concepts Statement 1 refers readers to that discussion. 258. Although the Board sees no need for reconsidering the FASB definition of materiality, it believes that the objective of accountability in governmental financial reporting adds another perspective to materiality. Specifically, the Board believes that accountability requires materiality to be judged not only in a quantitative manner, but also in a qualitative manner. That is, the Board believes that accountability involves such issues as legal and contractual compliance that may not have a ―material‖ effect on the entity’s reported operating results and financial position but that would influence or change the judgment of a reasonable person about how the government has conducted its 86 [Completely Superseded] affairs during the period. It is this qualitative aspect of accountability that resulted in some of the provisions of GASB Statement No. 3, Deposits with Financial Institutions, Investments (including Repurchase Agreements), and Reverse Repurchase Agreements, for example, the requirement to report significant violations of legal or contractual provisions for deposits and investments. 259. This Statement applies to the recognition and measurement of transactions in the operating statements of governmental funds. In that regard, application of materiality to the guidance in this Statement would generally be based on quantitative considerations. Nevertheless, preparers and auditors should also keep qualitative issues in mind while dealing with the transactions for which this Statement provides guidance. 87 [Completely Superseded] Appendix B GLOSSARY 260. This appendix defines certain terms used in this Statement. Account groups Self-balancing sets of accounts used to account for and report on certain general fixed assets and general long-term capital debt associated with or arising from the flow of financial resources measurement focus of governmental fund operating statements. Accrual basis of accounting A basis of accounting that recognizes the effects of transactions or events on the resources of an entity when they take place, regardless of when cash is received or paid. Arm’s-length Dealing with an unrelated party, with each party acting in his or her own selfinterest. Assets Probable future economic benefits obtained or controlled by a particular entity as a result of past transactions or events. Basis of accounting The timing of recognition, that is when the effects of transactions or events should be recognized for financial reporting purposes. For example, the effects of transactions or events can be recognized on an accrual basis (that is, when the transactions or events take place), or on a cash basis (that is, when cash is received or paid). Basis of accounting is an essential part of measurement focus because a particular timing of recognition is necessary to accomplish a particular measurement focus. Capital assets Long-lived, tangible assets (for example, equipment, buildings, land, and infrastructure) obtained or controlled as a result of past transactions or events. 88 [Completely Superseded] Debt proceeds The difference between the face amount of debt and the issuance discount, or the sum of the face amount and the issuance premium. Debt proceeds differ from the cash received by the government to the extent that issue costs, such as underwriter fees, are paid out of the debt proceeds. Effective interest rate The interest rate that, when used to discount debt service payments, produces a present value equal to the debt proceeds. Expendable trust fund A trust fund used to account for and report on financial resources that may be spent for designated purposes. Expenditures In governmental funds, decreases in financial resources from transactions other than interfund transfers, issuance discounts on general long-term capital debt, and refundings of general long-term capital debt. Fiduciary funds Those funds used to account for and report on assets held by a government in a trustee or agency capacity for individuals, private organizations, other governments, or other funds. These funds, known as the trust and agency fund types, include expendable trust, nonexpendable trust, pension trust, and agency funds. Financial resources Cash, claims to cash (for example, debt securities of another entity and accounts and taxes receivable), claims to goods or services (for example, prepaid items), consumable goods (for example, supplies inventories), and equity securities of another entity obtained or controlled as a result of past transactions or events. 89 [Completely Superseded] Flow of financial resources measurement focus A measure of the extent to which financial resources obtained during a period are sufficient to cover claims incurred during that period against financial resources. This measurement focus considers financial resources only and uses an accrual basis of accounting. Fund A fiscal and accounting entity with a self-balancing set of accounts recording certain assets, related liabilities, and residual equities or balances, and the changes in them, which are segregated for specific activities or to meet certain legal or administrative objectives or restrictions. General fixed assets Capital assets that are not assets of any fund, but of the governmental entity as a whole. General fixed assets are associated with and arise from governmental-type activities and most often result from the expenditure of the financial resources of governmental funds. General Fixed Assets Account Group (GFAAG) A self-balancing group of accounts (account group) that reports certain general fixed assets. General long-term capital debt Those liabilities that are expected to be paid from the financial resources of governmental funds and that provide long-term financing (a) to acquired capital assets, including infrastructure, or (b) for certain nonrecurring projects or activities that have long-term economic benefit. General Long-Term Debt Account Group (GLTDAG) A self-balancing group of accounts (account group) that reports the unmatured principal of general long-term capital debt. Governmental funds Those funds generally used to account for and report on governmental-type activities. Depending on the sources of financial resources and the nature of the 90 [Completely Superseded] activities reported, governmental funds are classified into four fund types: general, special revenues, debt service, and capital projects. Governmental-type activities Those activities of a government that are carried out primarily to provide services to citizens and that are financed primarily through taxes and intergovernmental revenues. Interest method A method of calculating interest that produces periodic interest revenue or expenditure (including amortization) that represents a level effective rate on the sum of the face amount of a note and its unamortized premium or discount at the beginning of the period. The difference between the amount calculated and the stated interest on the outstanding amount of the note is the amount of the periodic amortization. Interperiod equity measurement The measure of whether current-year revenues were sufficient to pay for current-year services. A measure of interperiod equity would show whether current-year citizens received services but shifted part of the payment burden to future-year citizens or used up previously accumulated resources. Conversely, such a measure would show whether current-year revenues not only were sufficient to pay for current-year services, but also increased accumulated net resources. Inventories See Supplies inventories. Measurement focus The objective of a measurement, that is, what is being expressed in reporting an entity’s financial performance and position. A particular measurement focus is accomplished by considering not only which resources are measured (for example, financial or economic resources), but also when the effects of transactions or events involving those resources are recognized (the basis of accounting). 91 [Completely Superseded] Operating debt Debt that provides financial resources to and is expected to be repaid from the financial resources of governmental funds but that is not related to the acquisition of capital assets, including infrastructure, or the financing of certain nonrecurring projects or activities that have long-term economic benefit. Prepaid items An asset account reporting payments in advance for unreceived goods or services acquired in exchange transactions. Prepaid items are for such items as insurance and rent. Proprietary funds Those funds used to account for a government’s ongoing organizations and activities that are similar to those often found in the private sector. Proprietary funds are classified into one of two fund types, enterprise or internal service, depending on the primary users of the fund’s services. Revenues In governmental funds, increases in financial resources from transactions other than interfund transfers, the issuance of general long-term capital debt, and the sale or capital lease of capital assets. Governmental fund revenues usually result from taxation and other nonexchange transactions or events. Stated interest rate The face or coupon interest rate; the rate at which interest payments are made or received. Supplies inventories Materials and supplies obtained or controlled as a result of past transactions or events and that are for use in operations. 92 [Completely Superseded] Appendix C ILLUSTRATION OF THE CALCULATION OF TAX REVENUES 261. This appendix illustrates the application of this Statement to the recognition of sales, income, and property tax revenues. The facts assumed in these examples are illustrative only and are not intended to modify or limit the requirements of the Statement or to indicate the Board’s endorsement of the situations illustrated. Illustration 1. Sales Taxes Assumptions State A, with a June 30 fiscal year-end, imposes a sales tax on all purchases. State law establishes the following merchant remittance requirements: a. b. c. Large merchants (those who remit at least $2,000 a year) are required to remit the taxes monthly, no later than twenty days after the end of the month in which the taxable sales are made. Small merchants (defined as those who remit less than $2,000 a year) are required to file quarterly, no later than forty-five days after the end of the calendar quarter in which the taxable sales are made. Merchants who fail to pay their taxes on time face a heavy fine unless they file a timely return and pay their taxes later with interest at 1 percent per month on the unpaid balance. The state has traditionally issued its annual financial report on September 30, and selects August 31 as its cut-off date for obtaining accrual information. Solution The schedule below shows sales taxes and the revenues to be recognized for the fiscal year ended June 30, 19X4. Assume that all amounts are expected to be collected. The following schedule does not include opening balance reversals. All amounts are in thousands. 93 [Completely Superseded] a. Large merchants-Timely cash receipts: Cash receipts from July 1, 19X3 to June 30, 19X4 were $2,000. Cash receipts in July 19X4 for June sales taxes were $200. Delinquencies: Cash receipts in July (for months before June) and in August (for June and before) were $100. Large merchants who filed tax returns on time for sales through June 30, 19X4 but did not pay those taxes owed $25 in unpaid taxes. Unpaid interest accrued on those taxes through June 30 was $5. Historical experience shows that merchants who fail to report their sales taxes on time for sales through June 30, 19X4 are likely to pay or report $15 of those taxes from September through November. (Experience also shows that payments or reportings of delinquencies after November are negligible.) The tax department’s sales tax system identified several merchants holding sales tax licenses who failed to report June 19X4 sales taxes. As of August 31, 19X4, those merchants who had not responded to delinquency notices were sent delinquency billings based on twice their May 19X4 sales tax remittances. These billings totaled $100. (No accrual should be made because it does not meet the criteria of GASB Statement 11. Delinquency billings calculated in this manner are not considered to be a reliable measure of the tax revenue or receivable.) $2,000 200 100 25 5 15 – $2,345 94 [Completely Superseded] b. Small merchants— Timely cash receipts: Cash receipts from July 1, 19X3 to June 30, 19X4 were $300. Cash receipts of taxes due August 15, 19X4 for the quarter ended June 30, 19X4 were $15 in July and $50 in August. Delinquencies: Cash receipts of taxes due May 15, 19X4 for the quarter ended March 31, 19X4 were $10 in July and $5 in August. Historical experience shows that the delinquency rate for small merchants is not material and the tax department sales tax systems did not identify any material delinquent small merchants still outstanding at August 31, 19X4. (Additional delinquencies are not accrued because they are not material.) 300 65 15 – 380 c. Audit adjustments— Between July 1 and August 31, 19X4, tax auditors discovered $40 in unreported taxes on sales through June 30, 19X4 and the state assessed the merchants for those taxes. 40 40 Total revenue to be recognized before opening balance reversals. 95 $2,765 [Completely Superseded] Illustration 2. Individual Income Taxes Assumptions State B, with a June 30 fiscal year-end, imposes an individual income tax. Its tax calendar is as follows: a. b. c. Employers must submit withheld taxes monthly, no later than the tenth day of the month following the month in which the taxes are withheld. Individuals must file an estimate. On April 15, June 15, September 15, and December 31 they must pay one-quarter of the difference between the estimated total tax and the estimated amount to be withheld from their salaries. Individuals must file a return no later than April 15 of the year following the tax year, and must pay the remaining tax owed. The state has a 5 percent overwithholding factor built into the wage withholding table. The state is required by statute to issue an annual financial report by October 31 following its fiscal year-end. To meet that requirement, the state has selected September 30 as its cut-off date for making accruals. Solution The schedule below shows individual income taxes and the revenue to be recognized for the fiscal year ended June 30, 19X4. Assume that all amounts are expected to be collected. The following schedule does not include opening balance reversals. All amounts are in thousands. a. Withholdings— Cash receipts from July 1, 19X3 through June 30, 19X4 were $2,000. Cash receipts in July 19X4 for amounts due July 10 and earlier were $200. Cash receipts in August and September 19X4 for amounts due July 10 and earlier were $100. Employers that filed without payment through September 30 for the witholdings due July 10 reported owing $25. Historical experience shows that delinquent employers will make an additional $30 in payments after the September 30 cut-off date. $2,000 200 100 25 30 $2,355 96 [Completely Superseded] b. Estimated payments-Cash receipts from July 1, 19X3 through June 30, 19X4 were $1,000. Receipts through September 14, 19X4 for estimates due June 15 were $150. Historical experience shows that if payments for estimates due June 15 are not made by September 14, the taxpayer pays the amount as part of a later estimated or final settlement payment. 1,000 150 – 1,150 c. Current final settlements (due April 15, 19X4)– Additional payments: Between January 1 and June 30, 19X4, taxpayers paid additional amounts or reported tax liabilities of $750 for taxes for the calendar year 19X3. Between July 1 and September 30, 19X4, taxpayers paid additional amounts or reported tax liabilities of $80 for taxes for the calendar year 19X3 Historical experience shows that $20 of additional payments in delinquent settlements will continue to ―trickle in‖ after September 30. Refunds: Between January 1 and June 30, 19X4, taxpayers claimed refunds of $850 for taxes for the calendar year 19X3. Between July 1 and September 30, 19X4, taxpayers claimed refunds of $100 for taxes for the calendar year 19X3. Historical experience shows that $10 of refund claims in delinquent settlements will continue to ―trickle in‖ after September 30. 750 80 20 (850) (100) (10) (110) d. Structural overwithholding— 5 percent overwithholding on tax revenue from withholding for the period January 1 through June 30, 19X4, subject to final settlement on April 15, 19X5. (70) (70) 97 [Completely Superseded] e. Tax amnesty program— The state instituted a special tax amnesty program on April 1, 19X4, designed to collect unreported past-due taxes. As of June 30, 19X4, the program had produced $80 in tax receipts. Between July 1 and September 30, 19X4, agreements were signed with taxpayers to pay $60 in past-due taxes; of this amount, $25 had been paid as of September 30, 19X4. – With regard to the $25. – With regard to the remaining $35. Based on the favorable results, additional auditors were added to the staff and the amnesty date was extended by three months; it was estimated that these actions would produce an additional $40. (No accrual should be made because the taxes were not actually assessed.) 80 25 35 – 140 f. Other information— Based on the strong economy during the period January 1 through June 30, 19X4, state officials concluded that the tax estimates filed for April 15 and June 15, 19X4 were understated and that additional payments in future final settlements are likely to be $100 higher than usual to overcome the April 15 and June 15 understatements. (No accrual should be made because GASB Statement 11 requires taxes expected to be received through future final settlement payments to be recognized in the future period.) – – Total revenue to be recognized before opening balance reversals. $3,465 98 [Completely Superseded] Illustration 3A. Property Taxes Assumptions City A levies a property tax of $2 million in June 19X8 for the budgetary period July 1, 19X8 through June 30, 19X9. The taxes are due to be paid on July 15, 19X8 and January 15, 19X9. The city issues its annual financial report on September 30, 19X9, with a cut-off date of August 31 for accrual information. The city has this information about property taxes levied for the fiscal period ending June 30, 19X9. All amounts are in thousands. Cash receipts June 19X8 Cash receipts July–December 19X8 Cash receipts January–June 19X9 Cash receipts July–August 19X9 $ 50 940 925 40 $1,955 Cash expected to be received September 19X9–December 19X9. Tax abatements after appeals. Expected receipts after foreclosure on $10 of delinquent taxes. Interest accrued through June 30, 19X9 on delinquencies. 20 15 5 2 Solution City A would recognize revenue for the period ended June 30, 19X9: Levy for the budgetary period July 1, 19X8 through June 30, 19X9 that is due during the same period. Less: Tax abatements after appeal. Taxes not expected to be recovered through foreclosure. Plus: Interest accrued through June 30, 19X9 on delinquencies 99 $2,000 (15) (5) 2 $1,982 [Completely Superseded] Illustration 3B. Property Taxes Assumptions City B levies property taxes in June 19X8 for the budgetary period July 1, 19X8 through June 30, 19X9. One-half of the taxes is due to be paid July 15, 19X9 (interest starts after that date) and the other half is due to be paid November 15, 19X9. The city issues its annual financial report on September 30, 19X9, with a cut-off date of August 31 for accrual information. The city has this information about levies it made in June 19X7 and June 19X8. All amounts are in thousands. Amount of levy Cash received in June 19X8 Cash received in July 19X8 Cash received in November 19X8 and later Cash received in June 19X9 Cash received in July 19X9 Cash expected to be received in November 19X9 and later June 19X7 Levy June 19X8 Levy $1,500 40 700 760 $1,800 50 850 ______ $1,500 900 $1,800 Solution City B would recognize revenue for the period ended June 30, 19X9: Based on June 19X7 levy for the budgetary period July 1, 19X7 through June 30, 19X8 that is due in the fiscal year ending June 30, 19X9, regardless of when received. 100 $1,500 [Completely Superseded] Illustration 3C. Property Taxes Assumptions School District C has a fiscal year that ends June 30. The district has this information about its property tax revenue for the period July 1, 19X8 to June 30, 19X9. All amounts are in thousands. a. b. c. Taxes are levied in January 1 each year for the calendar year; 50 percent of the levy is due in May of that year and 50 percent is due in October. The amounts are budgeted for the period in which they are due to be paid. For the calendar year 19X8, the levy is $1,000. Of the $500 due in May, $475 is received in May and $25 is received in July. Of the $500 due in October, $460 is received in October and $40 is received in December. For the calendar year 19X9, the levy is $1,200. Of the $600 due in May, $550 is received in May, $30 is received in July, and $20 is unreceived but is expected to be received in November. Solution School District C would recognize revenue for the period ended June 30, 19X9: Payments due in October 19X8 against the 19X8 levy, that are expected to be received, regardless of when received. Payments due in May 19X9 against the 19X9 levy, that are expected to be received, regardless of when received. 101 $ 500 600 $1,100
